Yesterday marked the start of a new trading month, quarter and a new(ish) conundrum; credit market fluctuation.
Being a new period lets quickly review the previous one, an if we are honest it was a poor start to 2018 in fact it was the worst start to a year since 2016.
The ASX lost approximately 3.9% for the quarter most of which came in March which lost 3.1%. US markets corrected twice in the March quarter; the S&P lost 5.2% in March the DOW 6.1% however for the quarter both are down approximately 3.6% – somewhat impressive when you consider a correction is a 10% decline or more.
Yesterday saw the reopening of US markets after the Easter break and immediately reacted to the news that China was slapping a further 128 new tariffs on US imports up to 25% in some cases. There was optimism that the President may alter his tack in his negotiations with China last week. However, both side have to play their hands in full before a full and fair evaluation can be made – China is now playing its hand. The DOW lost 700 points on Monday night and reiterates that:
Geo-political risk remains the single big risk factor facing all market in 2018 – vigilance is an imperative.
Being the first week of a new month means it’s time for the RBA to gather at Martin Place however they are not the only central bankers meeting with the ECB also due to meet this week to discuss cash rates. Neither are expected to shift their respective cash rates however markets are actively doing this on their behalf.
This brings me to the most interesting part of markets currently credit spreads. The US dollar LIBOR hit 2.29% on Thursday its highest level since the global financial crisis and has recorded a record 37 straight day rises. Its driving credit spreads into credit chasms and this is being felt globally Asia, Europe, the Middle-East and Australia are seeing spikes in short-dated papers off the back of the LIBOR spike.
The concern for central bankers with credit chasms like the one currently forming, is that core inflation is struggling to take hold on a more structural basis. A crippling wholesale funding increase due credit markets leads to slowdowns lending and creates funding pressures in finance, which leads to price deflation.
Look no further than the US corporate debt market – investment grade corporate bonds have retched up to 3.86% the highest level since 2011.
The bank bill swap rate hit 2.032% on Thursday its highest level since February 2016. The RBA will be watching this acutely, funding charges at this level is will put its growth, employment and inflation forecasts under pressure. The secondary issue for the nation is capital outflows.
The Aussie-10yr to US-10Yr spread sits around -20 basis points (bps), this is likely to put the carry trade under mounting pressure and a structural headwind for the AUD. There has clearly been a sustained steady decline in the AUD/USD as this takes effect.
The movements in the credit markets certainly has the market concerned; cross currency hedging is now at its highest level in four years and this isn’t just in the AUD, EUR and the JPY are also experiencing the highest levels of hedging in two years.