Sunday, June 28, 2009

Weekly Focus: The Tide has Turned

Global update

  • The upward revision of OECD's global growth forecasts marks a turning in the tide. Over the past two years all revisions have been to the downside. Going forward we expect more upward revisions as we are still more positive than consensus and the international organisations.
  • US data confirms a picture of improvement. Capital goods orders were stronger than expected and home sales and house prices show signs of stabilisation. A rise in jobless claims cast some doubt over the recent improvement in the labour market, though.
  • Euroland Flash PMI and German ifo rose further in June, suggesting that the pace of decline in Euroland production is tapering off. Leading indicators point to further improvement going forward.
  • Asian export data add further to the picture of a brisk recovery in the Asian economies.

Market movers ahead

  • A busy week ahead with US ISM and nonfarm payrolls taking centre stage. We look for further improvement in both.
  • The ECB meeting on Thursday will be the main event in Euroland. We don't expect much change in the rhetoric, though, and the meeting could become a non-event. Euroland Flash CPI and M3 are also due to be released.
  • In Denmark focus turns to Danish currency reserve data and first quarter GDP. We expect the currency reserve to be broadly unchanged at the current very high level.
  • In Sweden focus turns to the Riksbank meeting and PMI while Norway releases retail sales, PMI, unemployment and credit indicator.

Global update: The tide has turned

The tide has turned in forecast revisions

After two years of constant downward revisions, OECD this week delivered its first upward revision of global growth in its Economic Outlook (see table). For the US, China and Japan, growth was revised up by around one percentage point, while Euroland growth was on balance unchanged as growth was seen as being weaker in 2009 but slightly stronger in 2010. The revision comes after several months in which data have been stronger than expected and the financial crisis has eased. OECD also changed its risk assessment as it now sees risks as balanced in contrast with the previous risk assessment where risks were seen to be strongly on the downside.

OECD has moved closer to our own growth estimates but is still more pessimistic - especially for 2010. The difference mainly comes from a different interpretation of how the inventory cycle has worked in this downturn compared with previously. OECD leans towards the IMF approach in comparing this downturn with previous downturns in which financial crises have played a significant role. History tells you these are normally long and deep.

We believe, though, from looking at the data, that companies have responded much faster in reducing inventories compared with previous crises. Both because the magnitude of the crisis was a big surprise for most companies but also due to a strong need to raise liquidity as a direct result of the crisis.

In order to reduce inventories, production has to be cut back sharply in order to fall below actual demand. Demand is thus met mostly by delivering goods from the inventory while production is more or less shut down for a period. This took place in late 2008 and early 2009. However, now that inventories have been depleted, demand can no longer be met by taking goods from inventory. Hence production has to rise again. And this will lead to a production rebound in H2 09 - even if demand only rises slowly (for more on our forecast see Global Scenarios, June 2009). We believe OECD underestimates this inventory effect and it will affect mostly H2 09 production numbers. But as production rises in H2 09 it will have a higher starting point in 2010 and it will mostly show up in the 2010 forecasts for which we are more optimistic. If we are right, this will not be the last upward revision from OECD.

Data picture improving slowly but surely

Overall data continues to support the recovery story. US capital goods orders rose more strongly than expected in May and seem to have stabilised in the past two to three months after a massive collapse in H2 08 and early 2009. If indeed capital orders are stabilising this is earlier than expected as investments are normally a late-cycle demand driver. Data on US home sales also gave further evidence that sales are starting to stabilise. And several house price statistics released this week point to some stabilisation in house prices - or at least that the pace of decline is slowing. Throwing some doubts into the equation was a rise in US jobless claims the past week. Although the data is volatile, the latest data point suggests a more slow process of improvement in the labour market.

In Euroland, surveys from PMI and Germany's ifo institute generally continued the picture of further improvement. And looking at the inventory-order balance taken from the PMI statistics the situation of improving orders and lean inventories points to a fairly strong production rebound in H2 (see chart).

Asian data continue to look strong. Japanese exports rose strongly in May (when measured in volume) and data for South Korean exports in the first 20 days of June support the picture of a sharp turnaround. Asia has recovered briskly from this crisis and will be a strong force in turning the global trade collapse. In Europe for example 20% of exports go to Asia and these exports are likely to rise strongly over coming quarters after being in freefall over the past two to three quarters.

Market movers ahead


  • US: Focus in the coming week will be on non-farm payrolls and ISM. The May employment report took markets by surprise with a much smaller-than-expected decline in payrolls. Labour market indicators received so far point to another positive surprise in the June employment report. We expect job losses to have moderated further and look for a decline in non-farm payrolls of 270,000. The ISM manufacturing index for June is expected to rise further as signalled by several regional PMI indices. Combined with the continued decrease in US credit spreads and the huge gap between demand and production, we look for an above-consensus increase to 46.5.
  • Europe: The main event will be the ECB meeting but we do not expect any major changes in signals from the ECB as it has adopted a wait-and-see stance. Rates are likely to be kept on hold for a long time. Euroland M3 and Flash CPI are also due to be released. In the UK PMI is expected to rise further.
  • Asia: Focus will mainly be on Japan, where we expect data to confirm our view of a sharp rebound in growth. As signalled by corporate production plans we expect industrial production in May to show a new record monthly increase in industrial production. Production plans for June and July released in connection with the industrial production figures will give an idea of how much further production will rise in coming months. Tankan business confidence will reflect the recent improvement in the Japanese economy and rebound significantly in Q2. However, it will probably show that corporate capital expenditures remain the weakest link in the Japanese economy. With industrial activity increasing fast, manufacturing PMI should jump above 50 in June. In China we expect the two manufacturing PMIs to confirm increased momentum in industrial activity.


  • In Sweden the Riksbank meeting and the situation in Latvia take centre stage. The Riksbank might follow the ECB and announce a longer-term tender. In Norway retail sales, unemployment and the credit indicator are due to be released. Overall we look for more improvement in data. In Denmark we expect a broadly unchanged currency reserve. Danish Q1 GDP will show a significant decline - as seen in most countries.

Financial views


We maintain a positive view on equities in the medium term. Risk appetite has returned and our five point trigger list (from February 2009) for a stock market recovery has almost been completely fulfilled; we are consequently looking for new triggers.

To underpin further market recovery in the coming months, we are looking for (a) final demand pick-up, (b) coverage of underweight positions, (c) mid-cycle valuation focus, and (d) weaker deflationary impulses.

Fixed Income

Global: The rising trend in bond yields is expected to continue on a three- to six-month horizon based on continued improving macro conditions, increased risk appetite and heavy supply. The US is expected to underperform Euroland.

Intra-Euro: We are neutral in peripherals (Italy, Greece and Spain) versus Germany. On longer maturities, we still prefer France and Finland to Germany. We are long 5Y Austria against Spain. We are long 10Y Ireland against 10Y Denmark.

Scandi: We are underweight 10Y Danish government bonds against Euroland and swaps, but overweight 2Y Danish government bonds. We are overweight Swedish government bonds versus Germany in the 2Y area. We have closed our long position in the long end of the NOK government curve relative to Germany. We are overweight on Danish 30Y callable mortgages bonds versus both swaps and government bonds. We remain underweight in non-callables versus government bonds apart from 4'10.


During the past couple of months credit has enjoyed a very strong spell across the sectors and capital structure and spreads have tightened significantly. At the same time the activity in the primary market continues to be at a record high as more and more companies turn to the capital markets instead of the banks for funding. The ongoing strength in the primary market is a consequence of an asset allocation shift into credit, we believe.

We question the pace and sustainability of this massive rally and in recent weeks sellers have re-emerged in the credit market putting CDS spreads under some pressure. The macroeconomic outlook is still challenging and defaults are currently increasing. A while ago we moved to overweight based on the large liquidity and risk premiums for credit. Both these premiums have now been reduced substantially and we therefore recommend a neutral positioning.

FX Outlook

EUR/USD is set to adjust lower in the short run, but to continue upwards in the medium term. Important drivers for EUR/USD are equities as a proxy for risk and most recently oil prices. EUR/GBP is heading down as sterling is supported by positive economic data and a normalisation in financial conditions. Carry can keep on performing, while funding currencies will face headwinds.

Swedish krona and Norwegian krone both have solid potential against the euro. Currently, however, risk aversion and event risks (watch out for the Riksbank meeting 2 July) are still too high to see the Scandies exploit their full potential. The Danish krone is attractive (e.g. against Swiss franc) due to sound carry.


The rally in commodities seems to be running a bit out of steam with oil having a hard time trading significantly above USD 70 a barrel.

We think a short-term risk of a correction is growing. In our view, the market is neglecting near-term weakness such as weak oil demand and huge stocks in base metals. However, in six months' time, we expect a new leg up in prices when the different market balances are expected to tighten for real.

Foreign exchange: Big events, limited effects

Central banks centre stage yet again

Central banks were in the spotlight once again in currency markets during the week, but there were no really big direct FX implications. The EUR strengthened slightly against other currencies. The coming week brings a raft of interesting events.

As expected, the Federal Reserve decided to leave its key rate unchanged at 0.13%. More important was that the bank did not announce further purchases of government bonds and also toned down its deflation fears. The USD strengthened slightly ahead of the meeting, but generally there was a relatively small reaction in FX markets compared with previous meetings. The Fed kept its cards close to its chest in terms of future actions, giving no clear signals about an exit strategy from its quantitative easing, which means that the USD is still in the danger zone in terms of the Fed's monetary policy.

The result of Wednesday's record-large 12-month tender at the ECB is worth noting as it may effectively act as a rate cut. More than 1,100 banks took the opportunity to borrow funds, and the ECB ended up lending no less than EUR442bn at a rate of just 1%. We consider the whole operation a work of genius. The ECB will probably now succeed in getting interest rates to stay low for longer and stimulating the economy without the bank 'getting its hands dirty', as it does not itself need to commit to direct purchases of government bonds à la Federal Reserve and Bank of England. Were the ECB itself to buy up government bonds in Euroland, it would face the tricky decision of where these should be from, whereas now the banks themselves can decide whether they want to buy, say, German or Italian debt.

We cannot completely rule out the possibility of recent weeks' EUR strengthening actually being related to this tender, as some investors have acquired EUR assets for use as collateral. However, the money now released can be expected to be invested in assets denominated in other currencies, which may mean less support for the EUR ahead. However, we do not expect this to be the dominant factor: against the USD, for example, the EUR is still most dependent on movements in equity and oil prices.

Key events for FX markets in the coming week

There are a variety of events that may have FX implications in the coming week. All retail sales data need to be kept an eye on, as weaker-than-expected figures could knock sentiment in the markets, pull down equity prices and undermine pro-cyclical currencies like the AUD, NZD, SEK and NOK. Tuesday's US consumer confidence data and the Chicago PMI may also be important pointers for risk appetite during the week. Wednesday brings PMIs across Euroland, and the ISM survey in the US will also be followed closely. Generally analysts expect the rebound to continue, but in smaller increments. It is important in this context to note that all of these indices in the western world are still indicating a decrease in output.

Key events of the week ahead

  • Retail sales data
  • Euroland PMIs and ISM
  • SEK: Riksbank meeting (Thursday 9.30)
  • USD: Employment report (Thursday 14.30)

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Danske Bank


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