Clear risk-off signal from US-China clash of wills

6 August, 2019

The selloff from risk assets continues today, with Asian equities extending this week’s declines, after the S&P 500 posted its biggest single-day drop so far in 2019.

The expanded scope of the US-China conflict, which now officially extends beyond trade and tech, has materially raised the bar on any attempts to reach a compromise ahead of the newly threatened US tariffs by September 1. At the time of writing, it remains to be seen exactly what trade-related measures will be called upon by China in response to the latest move out of the US administration, with Beijing having already pledged “necessary countermeasures”. The signalling out of the world's two largest economies speaks to deteriorating global trade conditions which are set to drag the world economy’s growth projections lower for the year.

How much Yuan weakness will China tolerate?

Another key theme over the near-term is the level of Yuan weakness that will be tolerated by the People’s Bank of China. The PBOC has just set a daily reference rate of 6.9683, compared to Monday’s reference rate of 6.9225, which allows the onshore Yuan to move up to two percent either side of the rate against the US Dollar. While a weaker Yuan preserves some measure of competitiveness for Chinese exports, provided global demand holds up, it may also exert more downward pressure on currencies of trade-reliant economies across Asia and emerging markets.

Heightened US-China tensions adds to ‘Go for Gold’ mantra

The rapid and unexpected escalation in US-China tensions has sent markets scurrying towards safe-haven assets. Gold now has the psychological $1500 level in its sights, with Bullion prices having breached $1470 at the time of writing.

With alarms ringing over the projected path for the global economy that has been already dented by US-China trade tensions, investors are increasingly willing to park their money in the non-interest-bearing Bullion while ensuring that safe haven assets remain in vogue. The Japanese Yen is now trading below the 106 mark against the US Dollar, while yields on 10-year US Treasuries dipped briefly below 1.70 percent.

US-China conflict’s drag on global growth likely to prompt more Fed rate cuts

A dimmer global outlook should also heighten the prospects of more monetary policy easing out of global central banks, including the Federal Reserve. The Fed Funds Futures now point to a 42 percent chance that the Fed will cut US interest rates by 50 basis points at its September meeting.

Ramped-up expectations over multiple Fed rate cuts in 2019, despite Powell’s recent reluctance to capitulate to the markets’ dovish demands, have resulted in the Dollar index (DXY) unwinding recent gains, with the DXY testing the 97.2 support level at the time of writing.

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