* Italy softens its budget tone, while U.K. gathers support for BREXIT deal.

* Meanwhile, Russia/Ukraine is heating up.

* Mario Draghi says Europe has slowed (temporarily) and German Ifo Index heads lower.

* Chicago Fed Index improved while Dallas Fed Index slowed.


Everyone likes a good deal, and that is particularly true when it comes to negotiating in Europe.   With that in mind, two European macro risks have downshifted a little of late.

Italy Wants a Deal:  According to Reuters’ government sources (which we hold with little regard in Europe), Italy finally wants to avoid disciplinary action by the EU and is planning to reduce next year’s budget deficit target to 2.0% of GDP.  This news comes as League party leader, Matteo Salvini, said that the EU has offered “positive feedback.”   Taking it a step further, Salvini said, “What is important is that the budget contains the goals that we have established … if the negotiation means that the deficit (target) must come down a bit, for us it’s not important.”

Remember, in the end, European politicians need to be able to tell their voters that they fought for them.   If the voters believe that leaders have fought for them, they won’t ask questions about all the wine these politicians will be drinking with each other thereafter.   And why should the voters care about politicians drinking wine when the Italian budget will now be paying them for doing nothing.

U.K. Ultimately Wants a Deal:  U.K. Prime Minister, Theresa May, has been tweeting up a storm these past few days in an effort to gather backing for the BREXIT vote in the House of Commons.   Current polling suggests she’s probably 40-45 votes shy of the 320 needed to get passage.   But the PM has two weeks to grease the wheels of politicians on the fence (the vote isn’t expected until December 12th) and we expect she’ll have to spend most of the £13.1 billion in savings on domestic programs.   That’ll keep the politicians fat and happy.

Trump claims China wants a Deal too:   And we believe him, we just think Trump’s own administration doesn’t want a deal … and for good reason.   Trump believes that the trade deficit with China is bad and the ‘deep state’ remains concerned about China espionage and technological theft.   There won’t be a China deal at the G-20 but we fully expect that politicians on both sides will make it sound like one is coming.

Meanwhile, Russia got a deal on a few Ukrainian warships:  We wondered when the Crimean situation would take a turn for the worse, and now we have something we need to keep close eyes on.

As background, Recall that Russia took Crimea in order to have more direct access, and an expanded naval presence, on the Black Sea.   But Russia’s only means of moving military assets to Crimea remains through southern Ukraine.  Russia wishes to control southern Ukraine so that it can have land-based access to Crimea, which is why southern Ukraine remains in civil war with Russian-backed rebels.   Essentially, Russia hopes to surround the Sea of Azov in order to control it.   Ukraine finds this unacceptable.

Russia has since declared waters to the east of Crimea to be Russian territorial waters and ‘temporarily’ shut down the Kerch Strait.   Russia now controls both sides of the Kerch Strait and by closing it off, they essentially shut down vital shipping lanes for Ukraine into the Sea of Azov.   Ukraine disregarded Russia’s closure of the strait and sent a few warships through, which were subsequently fired upon and seized by the Russian navy.



We are concerned about the latest Russian developments, which confirm Russia’s ambitions to slowly retake former Soviet territory.   Ukraine is implementing martial law today, which will suspend upcoming elections.   We don’t know yet if Ukraine will increase its military response, but such an outcome seems likely.

Meanwhile, German Foreign Minister, Heiko Maas, said today that a Russian blockade of the Sea of Azov is “unacceptable” and “Developments in Ukraine are worrying.”   Outgoing U.S. Ambassor to the United Nations, Nikki Haley, called Russia’s actions “arrogant” and a “violation of Ukraine’s sovereignty”.  We wonder how long Russia can press on with its ambitions before eliciting a military response.


European Central Bank President Mario Draghi said today that Eurozone growth has slowed somewhat, but that is ‘normal and may be temporary.’   Meanwhile, Mr. Draghi went on to say that “There is good reason to be confident that underlying inflation will gradually rise in the period ahead…Recent developments confirm the Governing Council’s earlier assessments of the medium-term inflation outlook.”

We wonder what part of the forecast Mr. Draghi has more confidence in, inflation going up or growth slowdown being only temporary?   In any event, these developments likely put an ECB rate hike even further out on the horizon.


The German IFO Institute Business Climate Index declined for the eighth time in the past ten months, down -0.9 points to 102.0 in November.  Moreover, the index is at the lowest level since July.  Note, the Business Situations Index fell -0.7 point to 105.4 and the Business Expectations Index fell -1.0 points to 98.7.




Today, the Dallas Federal Reserve reported that the Current General Business Activity Index fell -11.8 points to +27.6 in November In the month, there were notable declines in every category.  Current New Orders fell -9.2 points, Production fell -9.2, Capacity Utilization fell -6.0, Unfilled Orders fell -1.4, and Shipment Volumes fell -8.9 points.   As for the outlook, manufacturers had a slightly less positive business outlook, as the Forecast fell -9.9 points to +25.7.   Note that inflation expectations are now in meaningful decline within most Fed surveys.




According to the Federal Reserve Bank of Chicago, the Chicago Fed National Activity Index (CFNAI) improved +0.10 points to +0.24 in October, driven higher by employment and hours worked (up 0.14 points).  However, it should be noted that Production & Income fell -0.03 points and Personal Consumption and Housing fell -0.01 points to -0.05.




U.S. GDP:  Our GDP model sees 3%+ Real GDP growth through Q1 2019, but slower growth thereafter (downshifting to 2%).  Our model doesn’t factor in the stimulus from the recent tax cut, so the growth reversal in 2019 could be more pronounced than our model appreciates (it is presumed that 2018 will be better than our model due to the tax cut, whereas the delta for 2019 would be worse than our model predicts).

U.S. Inflation:  U.S. inflation appears to have hit a peak two months ago and with oil prices down and the dollar index up, we believe inflation has peaked (for now).   

U.S. Federal Reserve:  The Fed is signaling that rates will be 100 bps higher by the end of 2019, and with inflation peaking, we believe that they’re wrong.   With signs that both inflation and growth are moderating a touch, we don’t even think they should hike in December at this point (but they will).  But the odds of additional rate hikes are falling for 2019, which means we are getting closer to a Fed pause.

U.S. Treasuries:  Although recent inflation data has been cooling, the job market remains tight and Real GDP trending is still trending well above +3.0%.  With that in mind, we still believe the yield on the 10-year U.S. Treasury will trend higher (but it’s getting harder to reach 3.50% as inflation and growth slow). 

U.S. Equities and Earnings:  S&P 500 operating earnings are rising materially, but the market seems to be repricing forward earnings.  Our SPX target is for an 18.5x P/E on 2019 forward earnings of $165, bringing our 2018 SPX target to 3,050.  We prefer financials given expectations for economic growth and an improving (steepening) yield curve.

Argentina:  The macro looks abysmal in Argentina, and they have IMF involvement, but there is a silver lining here in that Q2 GDP was so bad that it might be hard for Q3 to be negative!  Overall, Argentina’s economic condition appears to have weakened in 2018.   Inflation is at a lofty 39.5%, Industrial Production is down -11.5% Y/Y, Exports are down -4.8% Y/Y, Consumer Confidence has deteriorated since January, the Economic Activity Index collapsed in May, and Unemployment jumped to 9.6% in Q2 (7.2% in Q4 2017).

Brazil:  Following Brazil’s election, Consumer Confidence has turned higher and PMI’s have indicated a return to growth.  We are encouraged by recent developments, but with the Bovespa near its record high, we need to see more follow-through with macro data Currently, GDP is up just 1% Y/Y, Industrial Production is down -2.0% Y/Y, Retail Sales slowed to +0.1% Y/Y, and Unemployment continues to be elevated (11.9% in September, which is an improvement).

Canada: Canada’s housing market has been weak but recent data have shown signs of life in housing starts.  Not to mention, Retail Sales have improved for two straight months.  Canada’s monthly Real GDP had been in a slowing trend for a year, but improved slightly in August.  Employment picked up in October as the Unemployment Rate fell to 5.8% from 6% two months ago.

Mexico: Mexico’s macro data is mixed.  Manufacturing PMI’s are hovering at or below the “50” level, But retail sales accelerated to a 4.1% Y/Y rate, Confidence is strong, and GDP is up 2.5% Y/Y.  Note that Unemployment increased to 3.6% in September, which has been trending up slightly since May.

Venezuela: Remains uninvestable.


United Kingdom:  BREXIT drama aside, inflation has been in a slowing trend in 2018, unemployment has been declining, wages have been turning up, and PMI’s have been steady.   Even the big macro risk, housing, hasn’t shown much weakness.  In fact, home prices improved slightly in August on a Y/Y basis.

European Union:  Although Unemployment continues to trend lower, Industrial Production is now up +0.9% Y/Y, and Retail Sales are now up +0.8% Y/Y, Economic Sentiment is turning lower, and PMI’s have turned back from recent highs, and the political situation has gotten so bad that Merkel isn’t going to run again.  The events in Italy foreshadow possible macro risks for Europe, as monetary accommodation is removed.  We still believe Europe is uninvestible.  

European Central Banks:  The ECB is slowly removing accommodation and has reiterated its claim that bond buying is over in December (Draghi said so today, actually).  But Mario Draghi hasn’t given a timeline for raising rates and the recent decline in CPI will give them even further pause for doing so

Eastern Europe: Ukraine situation aside, we saw earlier in the year with Italy, nations with high debt levels can rapidly become front-burner macro items.  The same can be said for Eastern Europe, given high Debt/GDP levels, most notably Cyprus (104%), Croatia (88%, up from 66% at the end of 2013), and Slovenia (81%).   We also have the EU Article 7 issues against Hungary and Poland to watch as well.  The world is turning farther right, and pressure from unelected EU leaders will only push these nations further right.

South Africa We remain highly negative on South Africa, but we have noticed recent efforts by the ANF to walk back some of the rhetoric.   The ANF is now trying to reengage with foreign capital and wants to liberalize some of the rules around mining investment.   Politics aside, the macro picture is getting bleaker by the day as Business Confidence is rolling over, GDP is negative, Inflation has turned up, Retail Sales are barely positive, and PMI’s are bouncing around the ‘50’ level.  None of this will help unemployment (27.2% in Q2).   In our view, the mere risk of having assets appropriated will grind foreign capital commitments and new business investment to a screeching halt, and more time is going to need to pass in order for foreign investors to feel any degree of confidence.  Our best guess is that more downside exists for South Africa’s economy and we believe the currency and equity market will suffer as a result.

Turkey:  Remains uninvestable.


Australia:  The Australian data remain mixed but we have serious concerns about the decline in building approvals and new home loans, as well as China exposures.  With that in mind, we have a short view on Australian equities.  So far, the macro remains OK as the Unemployment Rate appears to be ticking lower (to +5.0% in September), Real GDP accelerated to +3.8% Y/Y in Q2, Exports are up +15.9% Y/Y, Wages are up +2.1% Y/Y, Retail Sales accelerated to +3.7% Y/Y in September, and Consumer Sentiment has ticked slightly higher recently.  However, consumer credit remains elevated and the value and number of home loan approvals and permits have turned negative, which is a bad sign as home prices have turned negative as well.

China:   It’s officially a trade war and Jack Ma thinks we’ve got 20 more years to go.  We have the under on 20 years, but the over on 1 year as China isn’t even interested in meeting with the Trump Administration at this time (although there is a token Xi/Trump meeting on the calendar).  China claims it’s going to pull out all the stops, is going to ‘encourage’ institutions to buy stocks, and there is talk of cutting taxes.   We doubt any of this will work to plug the large liability problem in China’s banking system.

We continue to believe that trade talks aren’t going to get better for quite some time and China will use every tool in its arsenal, which includes Renminbi depreciation.  It is notable that China is already working to stimulate its banking sector by lowering reserve requirements and encouraging banks to do “debt for equity’ swaps.  Note that PMI’s continue to indicate slow growth, Industrial Production is slowing, and now China may have an inflation problem.

India:  Indian economic activity appears strong, which runs counter to worries about shadow banking issues.  Commercial Credit accelerated to +14.6% Y/Y in October, Industrial production has been strong, M3 money growth has been steady at 10%, and PMI’s still show growth (albeit slower).  We are watching to see if any deterioration happens.

Indonesia:  Indonesia had gone four years without raising rates, but now rates have been hiked +125bps since Mid-April.   Indonesia’s GDP and Private Consumption Expenditures are up over +5% Y/Y, Consumer Confidence has been stable, Manufacturing PMI had been stable in the 49-51 range for a year and slowed to 50.5 in October, Industrial Production rebounded +9.0% Y/Y.  However, Retail Sales slowed slightly to +3.9% Y/Y and Exports slowed to +3.6%.  If there’s one emerging market that we’d be inclined to be bullish, this would be it, but we’d need to see the free-fall in the currency come to an end first. 

Japan:  Overall, the economic data have been mixed but we are encouraged by Prime Minister Abe’s promise to fix social security, immigration, and workforce participation.   We are slowly becoming positively biased.

Russia: Russia just can’t help itself.   The sanctions are beginning to have an impact on Russia and Russia is up to its antics again with Ukraine.  We find Russia uninvestible at this time.

South KoreaOverall, the economic data have been mixed.  While the world looks forward to peace on the Korean Peninsula, we are keeping an eye on trade data into China, which increased +17.7% Y/Y in October.   Also, GDP increased +2.0% Y/Y in Q3, Income is up +4.2% Y/Y, Industrial Production increased +0.9% Y/Y, and the Unemployment Rate improved to 3.9% in October.  Conversely, Retail Sales slowed to +3.0% Y/Y.





























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