Ugly start to the week for equities, with tech leading the declines

US tech took a battering on Monday, with the Nasdaq 100 dropping a further 2.2% to take it under the 14.5K level, its lowest since late June. Recent underperformance in tech has been driven to a large extent by rising US (and global) yields, though US yields weren’t actually higher yesterday by a significant margin; 10-year US bonds continue to trade within recent ranges around the 1.50% level, which in fairness still leaves them only a few bps below multi-month highs hit last week. Inflation expectations did tick a little higher yesterday in both the US and Europe amid surging energy prices, which may have contributed in part to the underperformance. Outages for Facebook, WhatsApp and Instagram may have also contributed, as well as a damning Facebook whistle blower report, which essentially suggested the company is not taking the necessary action to mitigate the known negative impact it is having on society (such as increasing political polarisation).

Value stocks outperformed on the day, but sentiment was downbeat across US equity markets, with the Dow (seen as a proxy for value stocks) dropping just under 1.0% and the S&P 500 dropping 1.3%, its third over 1.0% drop in the last five sessions. Asia Pacific markets were similarly downbeat, with the Nikkei 225 and Kospi indices both making headlines as they flirt with correction territory (meaning a more than 10% drop from recent highs) with both indices finishing the session down more than 2.0%. Chinese equity markets remain shut as Golden Week holiday celebrations there continue. Recent losses in US equity markets aren’t yet as severe as in Asia, with the S&P 500 down just over 6.0% and Nasdaq 100 down about 8.5% from September’s record levels when US equities bottomed yesterday. A sense of tentative calm has returned to global markets this morning, with European indices trading in the green (Stoxx 600 +0.7%), though that still leaves it close to 5.0% below record highs set back in mid-August. Major US index futures, meanwhile, are higher by about 0.3% in pre-market trade.

There hasn’t really been any one specific catalyst for the recent further deterioration in sentiment. Rather, a combination of factors (or “wall of worries” as some market commentators call it) are being cited. These include; 1) news yesterday that smaller Chinese property developer Fantasia (the 60th largest developer in the country by Q1 revenue) had failed to repay a maturing $205M bond, raising fears about deteriorating Chinese financial and economic stability amid the ongoing China Evergrande “crisis”, 2) a further sharp rise in energy prices after OPEC+ agreed to stick to their pre-agreed upon timeline whereby they will continue increase crude oil output by 400K per month next month, despite pressure from the international community to increase output at a faster rate (this news has sent WTI to six year highs in the $78.00s this morning), 3) rising inflation fears amid the sharp rise in energy prices, which has so far mostly been driven by surging natural gas prices (though the recent rally in crude prices isn’t helping), 4) continued worries about the ongoing failure of Congress to address the looming debt ceiling (which US Treasury Secretary Yellen says needs to be raised/suspended by the 18th of October) and, finally, 5) some are citing a recent uptick in the intensity of Chinese military incursions into Taiwanese airspace which is raising tensions in the region.

With regards to the first component of the above noted “wall of worries”, there has been an increased focus as of late on Chinese high yield credit markets, which are increasingly being monitored as a gauge of how badly the unfolding collapse of Evergrande is expected to impact the broader Chinese economy. China’s dollar high-yield segment fell 4 cents on Tuesday, its largest drop since 2013. Traders would do well to continue to monitor this gauge, as further falls could prompt risk aversion in global markets. In terms of the latest news out of Washington; Senate Republicans continue to refuse to vote with the Democrats to address the debt ceiling. Meanwhile, talks between the progressive Democrats (who want Biden’s Families Plan to be $3.5T) and more moderate Democrats (like those within the Biden administration and Democrat Senators like Manchin) continue – agreement on this front will be key, as, without the support of the Republicans, any debt ceiling suspension bill will have to be rolled into this broader social care spending package and passed via budget reconciliation. In other words, (unless some Republicans falter) no debt ceiling suspension without a deal between the Democrats on Biden’s economic agenda. As the 18th of October deadline looms, expect markets to become increasingly jittery about an accidental US default.

There are a few other themes traders should keep on their radar; there will likely be high-level US/China trade talks in Switzerland this week (as soon as Wednesday according to SCMP) and Fed officials continue to face scrutiny regarding their trading activities, with Richard Clarida’s recent financial disclosures landing him criticism. There will now be an independent review of whether ethics and guidelines were properly adhered to. This comes after hawkish-leaning FOMC members Kaplan and Rosengren both resigned from the Fed in September amid criticism of their trading activities. If Clarida resigns, this would add to the uncertainties regarding future Fed policy, with markets left to speculate how his (and Rosengren and Kaplan’s) replacement might see policy.

Taking a look at FX markets this morning; after regaining composure during yesterday’s difficult session for US equities and amid what seemed to be a pretty decent dip-buying appetite, the US dollar continues to edge higher. The DXY has not yet managed to edge to the north of the 94.00 level, which is currently acting as resistance, perhaps given the modest improvement in risk appetite in global equity markets. FOMC member Bullard was sounding the alarm about the risk of inflation remaining above the Fed’s 2.0% target for a more prolonged period, cementing his place as one of the committee’s more hawkish members. EUR, AUD, CHF and JPY are the underperformers this morning, each down 0.2-0.3% on the day so far versus the buck, with EURUSD languishing close to recent lows around the 1.1600 level, AUDUSD going sideways just under 0.7300 and USDJPY currently trading just to the north of the 111.00 mark. The euro hasn’t been able to garner any impetus from decent French Industrial Production data this morning, nor from final September Service PMIs, which were revised a tad higher from the flash estimate across the Eurozone, or hot PPI numbers (Eurozone PPI rose above 13% YoY as expected in August).

Meanwhile, the Aussie appears not to have been impacted much by last night’s RBA policy announcement. To recap, the bank left interest rates unchanged at 0.1%, the 3-year yield target at 0.1% and weekly QE purchases at AUD 4B (still to continue until at least April), all as expected. The bank maintained its stance that the economy is expected to recover well from the present lockdowns in Q4 and in 2022, but that it would take longer for wage pressures and inflation to build sufficiently to justify raising rates. Thus, despite markets still forecasting rate lift-off by the end of 2022, the RBA reiterated its rate guidance of no hikes until 2024. The bank sounded a little more concerned about house price inflation but hinted that macroprudential policy tightening would be its go-to policy tool for dealing with that.

Focus now shifts to the next antipodean central bank deciding on policy this week, the RBNZ tonight. The bank is expected to be the second in the G10 to begin lifting rates since the start of the pandemic (after the Norges Bank lifted rates to 0.25% from 0.0% in September), despite the ongoing presence of some lockdown restrictions across New Zealand. That is because the bank likely deems the risks to the outlook of keeping rates at the zero lower bound outweigh the risks of raising rates. Indeed, inflation in Q2 was running well above the RBNZ’s 2.0% target at 3.3% and a recent survey showed that a record number of businesses plan to hike prices in the coming quarter. Moreover, indicators such as the unemployment rate are already at levels deemed consistent with the labour market being at full employment (meaning further wage-driven inflation seems likely). Finally, house price inflation in New Zealand has been out of control, with prices up more than 25% YoY and the government has exerted significant pressure on the RBNZ to take this into account when deciding on monetary policy.

With a 25bps rate hike (to take rates to 0.5% from 0.25) basically fully priced in by markets, the main focus for FX (and rate) markets will be on the guidance for further rate hikes. ING suspects that the AUD/NZD cross will have a difficult task continuing to drop in the coming days/weeks, given that 1) the energy “crisis” is coming to the aid of AUD and 2) positioning in the pair is already very short. That implies the pair may struggle to return to test recent lows around 1.0300. Ahead of the meeting, NZD is a little higher on the day versus the buck, as is GBP. Sterling isn’t showing much concern despite jawboning from UK government officials about triggering Article 16 to address their grievances about the implementation of the NI protocol, which could further sour UK/EU relations.

Looking ahead, first up is ADP’s estimate of employment change in the US in September, which is set for release at 1315BST. Shortly after, US and Canadian trade figures for August will be released at 1330BST, but market focus will have shifted to what most will deem as being the main event so far as markets are concerned is the release of the US ISM Service PMI survey for September, which is expected to show a slight loss of momentum from the month prior, though is expected to still show growth in the sector at healthy levels. Today’s ADP and ISM PMI data both have the ability to influence expectations for this Friday’s official NFP number (most analysts are forecasting somewhere between 400k-500K jobs added), thus the dollar may be sensitive. Strong data could send the DXY back above 94.00. Central bank speakers of note include ECB President Lagarde who is scheduled to speak at 1715BST and FOMC member and Vice Chair for Supervision Randall Quarles at 1815BST.