Collective Sigh Of Relief?

Overview: Chinese stocks extended the pre-weekend recovery, with the major indices up 4%+, the biggest advance in three years. Most markets in the region rose, and the MSCI Asia-Pacific Index has a good start to snap the four-week drop. European shares are also higher, and the Dow Jones Stoxx 600 is 0.5% higher through late morning, led by Italy and Spain, whose bond yields are extended the decline that began in the waning hours of last week’s activity. The US dollar started slowly but as the session progressed it is finding better traction. It is firmer against most of the major currencies but mixed against the emerging market complex. Oil and gold are consolidating in narrow ranges.  

China: Chinese officials have launched a full court press of official comments and material support to stem the equity market slide, which threatened undermine key support of China’s leveraged financial system. In recent years, China has nursed the state-owned enterprises, which appeared to have grown relative to the private sector. President Xi gave strong vocal support to the private sector today and the government suggested it is considering personal tax cuts to provide economic support. That said, the reversal in Chinese shares seemed to have, at least in part, been fueled by ideas that the central government and local governments were taking controlling stakes in several companies to support share prices. Consumer shares and brokerages did well today as Chinese equities extended their recovery from four-year lows before the weekend. The yuan was slightly softer.  US Treasury Secretary Mnuchin, whose department report last week did not cite China as a currency manipulator indicated he was open to changing the criteria. Takeaway: Don’t resist Beijing, yet. 

Italy: Like China, the recovery seen in Italy before the weekend has carried into today’s action. The 10-year generic yield fell from a little above 3.80% at its worst on Friday to close the week at 3.44% and slipped to 3.30% today before bouncing back toward 3.40%. Moody’s became the first major rating agency to cut Italy’s credit rating below BBB. At Baa3 (or BBB-) Moody’s judges Italian debt the lowest of investment grades. However, that it only cut one notch and returned to a stable outlook was seen by many as not as bad as it might have been.  We remain concerned that Italy’s confrontation with the EU is still in the early days.  Specifically, tomorrow the EU may take the unprecedented step and formally return Italy’s budget proposals and demand revisions. Italy will have three weeks to submit a revised draft. Of course, it helps that League leader and Deputy Prime Minister Salvini rules out leaving the EU or EMU, but remain issue now is not redenomination risk but greater supply. Both the Italian government and the EC rhetoric is showing restraint, but the Italian government seems to be in no mood to sacrifice its campaign promises. In a local election over the weekend, the League saw its share rise to 11% from 2.5% in 2013. The Five-Star Movement drew less than  3%.  Takeaway: What appears to be a short-squeeze on Italian assets will likely be short-lived.