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The Overnight Report: Ole

Daily Market Reports | Sep 28 2012

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By Greg Peel

The Dow closed up 72 points or 0.5% while the S&P gained 1.0% to 1447 as the Nasdaq jumped 1.4%. It's amazing what a 2.4% rise in Apple shares can do.

It was looking like another dull and dreary day on the Australian bourse yesterday, with only the stock option expiry offering any interest, after a weak night on Wall Street on Wednesday. That is until the market learned Beijing had just injected US$58bn into China's banking system – a record for weekly market operations.

We're used to interest rate cuts, reserve requirement ratio (RRR) cuts or fiscal measures such as infrastructure project announcements, so this is a bit of a new one. The PBoC like any central bank constantly injects money and withdraws money from the banking system as appropriate, but the sheer size of this week's injection smacks of serious monetary easing rather than ordinary system liquidity management. We must note, nevertheless, that there is a specific purpose, being to cover bank requirements for cash ahead of their closure for all of Golden Week next week.

The injection comes closely on the heels of the revelation Chinese corporate profits have fallen 3.1% for the year to August. Up to now the PBoC has preferred RRR cuts as its easing tool of choice, outside the odd cut in rates. However such cuts encourage inflation, and inflation usually finds its way straight into the Chinese property bubble, which is exactly what Beijing is trying to avoid. By simply injecting more liquidity, the PBoC is in theory just ensuring Chinese banks have enough funds at their disposal rather than letting them loose on more indiscriminate lending.

Speculation remains as to whether such injections are a precursor to something bigger from Beijing around the corner, and as to whether that corner might be the upcoming regime change. There is a “care and maintenance” air about Chinese policy at present and the world is hoping something more substantial is afoot as soon as the new government is in place.

The problem for the new government is that any underlying growth in the Chinese domestic economy is insufficient to offset the loss of receipts from China's declining exports, particularly to Europe and the US. On the US front, last night's last revision of the US June quarter GDP came in at only 1.3%, down from the 1.7% reading of the last two estimates. June might be ancient history, but it was also revealed durable goods orders fell 13.2% in August.

Take out chunky aircraft orders and what remains was actually a 1.1% increase. However the previous two months saw more substantial declines. Pending homes sales also unexpectedly fell 2.6% in August, having risen by the same amount in July. This may again be a reflection of rising house prices, so the conclusion is mixed.

Wall Street opened to the upside last night with China an impetus but then stumbled on the local economic data. The data are nevertheless sterilised by the fact the Fed will simply conjure up as much money as it deems necessary on a month on month basis. And all eyes were on Spain, as traders awaited the budget announcement. As it turned out, the E39bn of announced budget cuts were actually more than expected, and hence the euro shot up. Where goeth the euro goeth Wall Street. The Dow jumped to be up 100 points before settling back at the close.

The stronger euro put the US dollar index back in its box, as it fell 0.4% to 79.56. The end of interim dollar strength was what the gold market has been waiting for, so gold jumped US$25.30 to US$1777.70/oz. And once again Aussie weakness has proven only fleeting as the local currency is up 0.7% to US$1.0442 over 24 hours, spurred by both the Chinese injection and the weaker greenback.

Base metals also turned mildly positive for the same reasons, but it was oil that really shot up last night. Brent rose US$2.11 to US$112.01/bbl and West Texas jumped US$2.21 to US$92.19/bbl. For oil however, the movements represented more sinister undertones. The Iranian president had provided his customary rant at the UN on Wednesday night and last night it was the turn of the Israeli prime minister, who suggested that Iran would only back down on its nuclear ambitions if it was presented with a clear “red line” towards military action as a consequence. Tehran's immediate response was to once again threaten to close the Straits of Hormuz, despite everyone knowing it will never happen because it would cut off Iran's revenues in limiting oil supply to the West.

So nothing new in the battle between Isaac and Ishmael, but such geopolitical tensions are enough to encourage traders to go long oil.

So realistically last night came down to a Spanish budget which was a little more severe than expected. Prime Minister Rajoy is treading the fine line between attempting to avoid the ignominy and admission of defeat of a bail-out request, keeping the troika happy, and keeping the restless natives happy. It's all about politics, like everything else in Europe, and never about the greater good.

Tonight the results of the stress tests of Spanish banks will be revealed and Moody's will decide whether or not to downgrade Spanish bonds to junk. Last night's budget announcement was enough to see an easing of those yields, and one wonders whether the bond market would even blink on whatever Moody's (belatedly) thinks.

Given the turnaround in the local market yesterday, the SPI Overnight is up a mere two points.

Today's local private sector credit numbers will no doubt help to fuel more RBA speculation.

Go the Swannies.

The FNArena Editor will participate in BRR Media's Friday Afternoon Round Table, from 3pm onwards.

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