Japan GDP, China Trade Disappoint

The new week has begun with two macro-economic disappointments. First, after the recent capex data, economists had expected Japan's 0.4% quarterly contraction in Q3 to be largely revised away. However, the actual report came out worse, showing a slightly deeper contraction (-0.5%). Moreover, this was due primarily to the downward revision in business spending to -0.4% from -0.2%. The consensus had expected an upward revision to 0.9%.

This may encourage a largely supplemental budget that will be unveiled after the December 14 election. The poor economic news, only partly blunted by upward revisions to early data, would be expected to weaken Abe's support. However, the DPJ are reportedly running a weak campaign that expressions of frustration with Abenomics may seek other expressions.

Separately, Japan reported a current account surplus more than twice as large as expected (JPY833 bln vs consensus of JPY370 bln). This was not the result of an improved trade balance, which saw further deterioration (-JPY767 bln vs -JPY715 bln in September, and consensus forecast of -JPY570 bln). Rather, the key to the current account surplus was the increase in the investment income surplus. The yen's depreciation boosts the value of the foreign earnings.

Second, China disappointed. Its trade surplus rocketed to a new record high of $54.5 bln in November. This is 20% larger than the October surplus and well above expectations. However, it is a sign of a further softening of the world's second largest economy, and fans speculation that additional easing measures will be delivered in the coming weeks.

Exports, which were expected to have risen by 8.0% (after 11.6% increase in October), rose by 4.7%. The bigger miss was on imports. They had risen 4.6% year-over-year in October and were expected to slow to 3.8% in November. Instead they collapsed to -6.7%. The sharp drop in imports largely reflects the dramatic fall in commodity prices, especially energy. However, preliminary reports show the the volume of oil imports also eased, which is consistent with a slowing China's domestic demand.

The news pushed the yuan down. Its decline of a little more than a third of 1% was the largest decline since late September. Near CNY6.1715, the US dollar is at its highest level since early August. The news was not sufficient to derail the equity market surge. The Shanghai Composite tacked on another 2.8%, bringing the rally since the November 21 rate cut to a stunning 24.2%. The rally has taken place amid impressive gains in volume and record margin usage. The surge has prompted China's Securities Regulatory Commission to issue cautionary warnings to investors.

The European news stream is quiet. However, there are three developments to note. First S&P unexpectedly cut Italy's sovereign rating to BBB- from BBB before the weekend. It cited the well known problems of the lack of growth and the high public debt. The outlook is stable, which helps reassure investors that it is not about to lose its investment grade status. That said, Italian bonds are under-performing today by not participating in the rally elsewhere in Europe (though not Greece).

Second, the Sentix measure of investor confidence ticked up to -2.5 from -11.9 in November. The consensus did not expect that magnitude of improvement. However, it is of little significance. Over the past month, European stocks have rallied. Germany and Spain have led the rally and those two bourses have done better than the Nikkei to lead the major market.

Third, Germany reported strong factory orders before the weekend (2.5% vs consensus call for 0.5%) but this did not translate into better output figures, as is often the case. Industrial production, we learned today, rose 0.2% in October, half of what the consensus expected. Adding insult to injury, the September gain was revised lower (1.1% vs 1.4%).

The prospect of the ECB's TLTRO this week and speculation that the Fed will drop or modify its reference to a "considerable period" in next week's statement illustrate the divergence that is pressuring the euro lower. Interest rate differentials are also moving further in the US's favor. The euro has slipped below $1.2250, and it is straddling that area as the North American session is about to start. Resistance is now pegged in the $1.2280-$1.2300 area as the single currency works its way toward $1.22 and then $1.20.

Ironically, the yen is the strongest of the major currencies today, gaining about 0.5% against the dollar. The greenback had initially approached the JPY122 area (reached ~JPY121.85) before slipping back toward JPY121 as equity markets in Europe slipped and the US markets are called lower. The US reports the Fed's news Labor Market Conditions Index. It stood at 4 in September and October. It peaked in April at 7.1 before falling to 2.7 in August. Improvement now would strengthen the conviction that the Fed's forward guidance will be adjusted in next week's statement and at Yellen's press conference.