European stocks slid to a two-week low amid mixed earnings, as bank stocks extended yesterday’s decline as fears that Italy is not “fixed” have reemerged sending both UniCredit and Monte Paschi tumbling, not helped by an adverse market reaction to a disappointing Japanese fiscal stimulus announcement, while the AUD first dropped but then jumped after the RBA’s priced in rate cut was announced, seen as underwhelming.

As expected by both economists and the market, in the main central bank event overnight, the RBA cut rates by 25 bps to a new record low of 1.5%, however as Citi analysts quickly observed, much of RBA’s statement today – widely seen as hawkish – was a reproduction of the July comments, with no mention of further easing guidance, adding that the RBA appears to be sanguine about the housing market. “We wouldn’t be surprised if AUD ended up higher following the RBA’s interest rate cut,” Todd Elmer, Singapore-based strategist at Citigroup writes in note. He was right. After the AUD, which had already seen downward pressure ahead of RBA, dropped in kneejerk reaction to the rate cut, it promptly rebounded and was trading at session highs of moments ago in what has been a largely wasted “buy the currency news” rate cut.

And speaking of reacting to the news, the other notable overnight event was Japan’s announcement of its JPY28 trillion stimulus plan, which however as we warned last week proved to be underwhelming, and as a result Japanese shares fell the most in almost four weeks to lead a slump in Asian equities, while the yen strengthened against all of its major peers and Japanese bonds tumbled after a 10Y debt auction drew widest tail since March 2015, which coupled with fears that  that the BOJ may soon be phasing out QE, sent 10Y yields spiking higher by 8.5bp post-auction, almost back to 0%, and putting selling pressure on both US and European yields.

AS Bloomberg put it, the Japanese yen appreciated to the strongest level in three weeks against the dollar as extra spending announced by the government amounted to only a small part of a headline number flagged by Prime Minister Shinzo Abe last week. The currency climbed against all except one of its 16 major peers as Japan’s government announced 4.6 trillion yen ($45 billion) in extra spending for the current fiscal year, as Abe seeks to bolster the economy without abandoning targets for improving fiscal health. The measures are part of what Abe referred to in a speech last week as a 28 trillion yen stimulus package. Faltering stock markets also caused investors to shun riskier assets in favor of havens such as the yen.

The yen appreciated 0.7 percent to 101.70 per dollar at 10:33 a.m. in London. It touched 101.46 per dollar earlier, the strongest level since July 11.

“The acknowledgment is that the fact the fiscal package is not going to be the panacea to the ills of Japan in terms of emerging from deflation.” said Jeremy Stretch, head of foreign-exchange strategy at Canadian Imperial Bank of Commerce in London. “We are seeing risk appetite moving sharply on the defensive and accordingly we are seeing a flight to safety which will invariably favor a lower dollar-yen.”

The currency jumped last week as the Bank of Japan enlarged a program of buying exchange-traded funds, while keeping its negative interest rate unchanged and avoiding an increase in raising the target for the monetary base. “The headlines were 28 trillion yen, but the actual new spending will only be a quarter of that,” said Mansoor Mohi-uddin, a Singapore-based strategist at Royal Bank of Scotland Group Plc. “So another sign following Friday’s BOJ decision, policy makers aren’t beating expectations.”

Shifting to Europe, Commerzbank AG led Europe’s banking shares lower as Germany’s second-largest lender tumbled 8% after it scrapped its profit target for this year and forecast a drop in earnings.  In Italy, UniCredit plunged 5.4% following yesterday’s 9.4% drop, and was again halted as Il Messaggero reported that the lender
may consider a capital increase of as much as 8 billion euros.

“There doesn’t seem to be much confidence for banks making profit in this low-cost environment,” said Guillermo Hernandez Sampere, the head of trading at MPPM EK. “Oil prices were one of the main subjects in Q1 and now it’s back, but the situation hasn’t changed. There’s still too much being produced by the large oil countries.”

The MSCI All-Country World Index fell 0.3% in early trading, while the Stoxx Europe 600 Index slipped 1 percent. Royal Dutch Shell Plc lost 2 percent, pulling crude producers lower. Metro AG dropped 6.9 percent after reporting third-quarter sales and profit that missed estimates because of swings in currencies. Deutsche Lufthansa AG declined 2.6 percent after saying that average ticket prices fell in the second quarter due to a combination of lower demand stemming from terrorist attacks and excess capacity across the airline industry. S&P 500 futures dropped 0.2%, signaling U.S. equities will extend losses into a second day after erasing gains in late trading Monday, while the Dow’s losing streak – 6 days in a row as of yesterday –  in over a year may continue

Oil stayed near $40 a barrel, after a slide that pushed it into a bear market on Monday. West Texas Intermediate crude was 0.2 percent higher at $40.13 a barrel after sliding to its lowest settlement price since April 18 on Monday. Futures have retreated 22 percent from a peak reached in June, meeting the common definition of a bear market.

On today’s docket, investors will look to economic data which includes releases on personal income and spending forecast to show continued expansion for June. Earnings will also be in focus, with companies including Pfizer Inc. and American International Group Inc. posting results. About 57 percent of S&P 500 members that have reported so far beat sales projections, while 80 percent topped profit forecasts. Analysts estimate profit at S&P 500 companies fell 3.2 percent in the second quarter.

Market Snapshot

• S&P 500 futures down 0.3% to 2159
• Stoxx 600 down 1.2% to 336
• FTSE 100 down 0.8% to 6642
• DAX down 1.4% to 10186
• German 10Yr yield up 3bps to -0.07%
• Italian 10Yr yield up 2bps to 1.2%
• Spanish 10Yr yield up 3bps to 1.05%
• S&P GSCI Index up 0.2% to 333.2
• MSCI Asia Pacific down 0.7% to 136
• Nikkei 225 down 1.5% to 16391
• Hang Seng closed amid typhoon
• Shanghai Composite up 0.6% to 2971
• S&P/ASX 200 down 0.8% to 5541
• US 10-yr yield up less than 1bp to 1.53%
• Dollar Index down 0.31% to 95.42
• WTI Crude futures up 0.1% to $40.12
• Brent Futures up 0.2% to $42.24
• Gold spot up 0.5% to $1,360
• Silver spot up 0.7% to $20.58

Top Global News

• Australia Cuts Rates to Record Low to Spur Inflation, Jobs
• Carney Quantifies Gloom With BOE Stimulus Debate at Crunch Point
• Infineon Drops After Earnings Disappoint on Smartphone Weakness
• Treasuries drop in overnight trading, global equities mostly lower and commodities rally as Australia’s central bank cuts rate to record low 1.5% and 10-year JGB auction drew widest tail since March 2015.
• Japan’s government announced 4.6 trillion yen ($45 billion) in extra spending for the current fiscal year, as Prime Minister Shinzo Abe seeks to bolster the economy without abandoning targets for improving fiscal health
• The Bank of Japan is unlikely to wind back its record monetary stimulus after completing a review of its policy, Governor Haruhiko Kuroda said
• Six weeks after Britain’s vote to leave the European Union sent shock waves across the nation, on Thursday the Bank of England governor will present a detailed assessment of what it means for the economy as well as his plan of action
• Euro-denominated investment-grade notes had their biggest monthly returns in four years in July as the ECB bought more and more corporate and sovereign bonds and drove yields lower
• Around the world, governments are planning fresh spending to boost growth and support wages, heeding the advice of those who have argued that economies need the jolt as society ages and productivity sags
• Investors managing $163 billion are throwing their weight behind what BlackRock Inc. dubbed the “great migration’’ to emerging-market debt in search of antidotes to the near-zero yields offered by their staple assets
• Saudi Arabia may be embarking on a new phase in its efforts to stave off the worst of a cash crunch among its banks as its central bank offered domestic lenders about 15 billion riyals ($4 billion) in short-term loans
• Fed’s Kaplan stated in speech this morning, “In light of the decline in the neutral rate, using monetary policy to help manage the economy has become more challenging”

* * *

Looking at regional markets in detail, Asia traded mostly lower amid initial cautiousness ahead of the RBA rate decision and following the weakness seen in Wall St., where declines in energy to bear market territory and discouraging data dampened sentiment. This saw Nikkei 225 (-1.5%) underperformed as participants awaited Japan’s stimulus announcement which was expected to be around JPY 28TN (later confirmed), which some analysts feel may not be enough to have a sustained impact. ASX 200 (-0.8%) traded subdued with a widely expected RBA rate cut failing to provide counterbalance the commodities led weakness. Shanghai Comp (+0.6%) saw indecisive amid mixed earnings, while Hong Kong markets remained closed due to a typhoon. 10yr JGBs continued to feel the repercussions from last week’s BoJ disappointment with prices down nearly a point while a poor 10yr auction, which saw the b/c and lowest accepted price decline from prior and a wider tail-in-price, further exacerbated losses in the paper.

Top Asian News

• World Equity Traders Flip Switch From Hate to Love for China
• Hong Kong Closes Stock Market Amid Typhoon
• Australia Cuts Rates to Record Low to Spur Inflation, Jobs
• Honda Profit Exceeds Estimates as Sales Climb in U.S., China
• Nintendo Benefits From Pokemon Go Halo as 3DS Game Sales Double
• China Said to Consider Merging Xinxing Cathay, First Heavy
• Uber Said to Plan Boosting Resources for Southeast Asia, India
• Noble Group Sinks in Singapore, Triggering Query From Exchange

European equities have slipped this morning with sentiment dampened by fears over the banking sector, in particular, the concerns surrounding Italian banks NPLs. As such, shares in UniCredit had been halted having fallen over 5% after reports suggest that the bank is considering raising EUR 7-8bIn worth of capital. While Monte Paschi (-8.1%) shares yet again underperform as some investors doubt the viability of a bail out for the bank. Elsewhere, the slew of poor earnings from the European banking sector continues, with Commerzbank (-8.2%) the latest bank to announce that profits have been hampered by the low interest rate environment. Furthermore, UK banking names are also feeling the squeeze amid an extension to the PPI deadline to 2019 (2018 was the originally planned date) and the UK property sector has also been hampered by the latest UK construction PMI, which although beat expectations, revealed the steepest fall in commercial building for over 6.5yrs. Another contribution to the downside in EU bourses has been the declines observed in the oil complex with WTI crude futures breaking back below USD 40. Moreover, fixed income markets were initially pressured most notably stemming from the pickup in JGB yields which rose for a 4th consecutive session after last Friday’s disappointment from the BoJ and a tepid reception to the latest Japanese stimulus package. Furthermore, a disappointing 10yr JGB auction also acted as a drag on prices with UK investors also concerned ahead of the UK DMO’s 2022 auction which was said to be one of their more illiquid offerings by the debt agency. However, Gilts saw a move higher in the wake of the auction which drew an impressive b/c of 2.28. Additionally, despite the initial downside, Bunds have recouped some losses after finding support at the 167.00 level allied with the softness across the oil complex.

Top European News

• BMW Pledges to Stay Atop Luxury-Car Market as Sales Lag Mercedes
• Metro Sales, Profit Miss Estimates on Currency and Costs
• Commerzbank Scraps Full-Year Target, Sees Decline in Profit
• Infineon Drops After Earnings Disappoint on Smartphone Weakness
• Lufthansa Sees Difficult Second Half as Terrorism Damps Demand
• Top Airbus A320neo Buyer IndiGo Considers Slowing Deliveries
• U.K.’s May Wants ‘Economy Firing’ in Post-Brexit Industrial Plan

In FX, the yen jumped 0.7 percent to 101.61 per dollar as the government announced 4.6 trillion yen ($45 billion) in extra spending for the current fiscal year, accounting for about a quarter of the total amount Prime Minister Shinzo Abe flagged in a speech last week. “The market is buying the rumor and selling the fact, so the yen has rallied after the headlines,” said Mansoor Mohi-uddin, a Singapore-based strategist at Royal Bank of Scotland Group Plc. The announcement was another sign, after the central bank’s meeting last week, that officials are failing to beat expectations, he said. The Bloomberg Dollar Spot Index, a gauge of the greenback against 10 peers, fell for the fifth time in six days. The Australian dollar advanced 0.4 percent to 75.48 U.S. cents, reversing earlier declines. While Australia’s economy has grown faster than the central bank predicted, core inflation and wage growth are both at record lows. The MSCI Emerging Markets Currency Index retreated 0.1 percent a day after it reached its highest level since July 2015. Malaysia’s ringgit led declines, weakening 0.8 percent, the most since July 18. The country loses 450 million ringgit ($111 million) in annual income for every $1 drop in oil and the nation derives about a fifth of its revenue from energy-related sources, according to government data. South Africa’s rand and Mexico’s peso both dropped 0.5 percent.

In commodities, West Texas Intermediate crude was 0.2 percent higher at $40.13 a barrel after sliding to its lowest settlement price since April 18 on Monday. Futures have retreated 22 percent from a peak reached in June, meeting the common definition of a bear market. While American crude and gasoline inventories are forecast to have declined last week, they’ll likely remain around the highest seasonal level in at least two decades. Nigeria has also resumed payments to former militants as the government seeks to establish a cease-fire after attacks cut the country’s oil output to the least since 1989. Factions in Libya have reached a deal to re-open oil terminals. Gold headed for its longest stretch of gains since early July, advancing 0.4 percent to $1,366.33 an ounce. Copper advanced 0.3 percent, while aluminum gained 0.1 percent and nickel rallied 0.8 percent.

Bulletin Headline Summary From RanSquawk and Bloomberg

• European equities trade lower across the board as financial names continue to be pressured amid concerns around the Italian banking sector and soft Commerzbank earnings
• Elsewhere, Japanese Prime Minister Abe’s cabinet have now approved the JPY 28tr1 stimulus package and the RBA cut rates by 25bps as expected
• Looking ahead, highlights include US Consumer Spending, PCE Deflator, API Crude Oil Inventories, earnings from BMW, AIG, P&G and Pfizer

DB’s Jim Reid concludes the overnight wrap

The first day of August didn’t bring much joy to markets yesterday as another steep leg lower for Oil – which has been wobbling in the background for a while now – largely dictated the weaker sentiment. Yesterday WTI tumbled -3.70% and at one stage dipped below $40/bbl before steadying to finish a shade above that by the close. You have to go back to late April to find the last time Oil went below $40/bbl. It now means that since touching an intraday high of $51.67/bbl on June 8th, Oil has slid an impressive -22.25% after accounting for the very modest bounce back (+0.32%) this morning. The weekend news that Libya had provisionally reached a deal to reopen three eastern ports appeared to be the main culprit of the latest leg lower, while Saudi Aramco also announced that it had cut its export prices into Asia by the most in 10 months.

Equity markets started the new month on the back foot as a result, although declines in US markets were fairly modest as tech and healthcare names stood firm. The S&P 500 closed -0.13% with the energy component down over -3% although the index did actually briefly reach a new record high early in the session. European equities were weaker. The Stoxx 600 fell -0.59% and the Italian FTSE MIB was down a steep -1.73%. As you’ll see below much of that had to do with Banks. Meanwhile the US CDX HY index was 15bps wider reflecting that energy weakness. The index is now at the widest level since July 7th.
Meanwhile, we wondered in yesterday’s EMR how long the relief rally in European bank equities would last after the results of the stress tests given that profitability concerns are no nearer to being addressed. The answer was 6 minutes as an immediate +1.27% rally in the Euro Stoxx 600 banks index reversed not long after the open and ended the day closing -1.79% lower. In fact of the 48 banks in the index, just 6 finished up on the day and it was peripherals in particular that underperformed with the likes of Unicredit (-9.40%), Bank of Ireland (-6.49%), Banco Popolare di Milano (-6.22%) and UBI (-6.20%) sharply lower. While some of this may reflect the general level of scepticism over Friday’s stress tests it’s likely that the weakness in Italian banks in particular may be down to renewed fears that more recaps are needed in the sector.

Financials credit did however hold in much better. While the iTraxx senior fins index ended up 1bp wider, the iTraxx sub-financials index was actually 2bps tighter on the day. In fact a quick glance at some of the AT1 cash bonds suggests that the asset class outperformed (Unicredit, Intesa, Lloyds and Barclays as examples were all up 1pt or so). This is probably a reflection of the comfort over capital levels in banks (current and that some will be forced higher) after the stress tests.

Looking at banks on the other side of the pond, last night we saw the latest quarterly Fed senior loan officer survey. We always look to the corporate and industrial (C&I) number as it’s well correlated with future corporate defaults. The results showed the fourth quarter of net tightening even if the figure of 8.5 was improved on the 11.6 seen last quarter. In the 26 year history of the survey we’ve never seen two or more successive quarters of net tightening without it eventually leading to a recession. It’s quite a cyclical series. However the amount of net tightening seen so far is still mild relative to recessionary levels. The bulls would argue that the oil and gas sector has been the main negative driver. However losses in one or two sectors can cause banks to tighten the spigots elsewhere so it’s still relevant.
Staying with credit, yesterday saw the latest weekly ECB CSPP numbers (as of 29 July 2016) and they’ve continued to make impressive progress considering the time of year even if last week did mark the second successive week of sub €300m daily purchases. They settled €1.365bn last week to leave the grand total at €13.214bn. This implies €273m of daily purchases last week against the average run rate of €367m since early June.

The monthly report is also out and it shows that 94.1% of the total now is from secondary with only 5.9% from primary. The number for July showed a slightly higher 7.8% from primary. Whilst we’ve been pretty bullish on the likely impact of the ECB on spreads it’s fair to say that they will likely need to up the amount of primary they buy as the year progresses if they want to hit their targets. Secondary will get harder and harder once all the loose bonds are bought.

Changing tack now and switching over to Asia where markets are eagerly awaiting the latest out of Japan and specifically the confirmation and details from the Government of PM Abe’s fiscal stimulus plan. As we type there’s still no word yet, with the Nikkei (-0.68%) and Topix (-0.78%) both in the red owing largely to the weakness stemming from the move in oil. The Yen is 0.20% weaker while JGB yields continue to march higher. The 10y is currently 8bps higher. Elsewhere bourses in China are little changed and the Kospi (-0.45%) and ASX (-0.41%) are also slightly lower. The Hang Seng index is closed following a typhoon warning. Also in focus this morning is the RBA which as expected cut the cash rate by 25bps to a record 1.5%. The Aussie Dollar (-0.25%) is a touch softer post the news.

Moving on. Yesterday’s economic data didn’t move the dial all that much. Firstly we got confirmation of the final July manufacturing PMI’s. The Euro area reading was revised up 0.1pts to 52.0 helped by an upward revision to Germany. Notable was the further downgrading of the UK data to 48.2 (from 49.1). The wider periphery was also weaker last month. Indeed the PMI for Italy declined 2.3pts to 51.2 (vs. 52.5 expected) while Spain fell 1.2pts to 51.0 (vs. 51.5 expected). In the US the final manufacturing PMI was unrevised at 52.9 which represents a 1.6pt rise from June. Meanwhile the ISM manufacturing last month fell 0.6pts to 52.6 (vs. 53.0 expected). New orders were little changed at 56.9 while production rose (+0.7pts to 55.4) however the employment component did fall back below 50 to 49.4 (from 50.4) which is notable ahead of Friday’s employment report. The other data yesterday was a much softer than expected construction spending print for June (-0.6% mom vs. +0.5% expected).

Interestingly despite the fairly underwhelming data and leg lower for Oil, the US Dollar was a smidgen higher yesterday while US Treasury yields rose and are back to more or less pre-GDP report levels. Indeed 10y yields rose 6.8bps yesterday and much of that appeared to be attributed to comments from the NY Fed’s Dudley. Notable given his influence as a more dovish member of the committee and who’s views are seen as aligning with those of Yellen, Dudley said that while ‘directionally, the movement in investor expectations towards a flatter path for US short term interest rates seems broadly appropriate’, it is however ‘premature to rule out further monetary policy tightening this year’. He went on to add that should the incoming data validate his view of the outlook, then US monetary policy would need to move at a faster pace than implied by futures markets. Dallas Fed President Kaplan (moderately hawkish) also spoke yesterday although his comments didn’t offer a whole lot of new info. Kaplan said that September is ‘very much on the table’ but that we’ll have to see how events unfold.

Before we jump into the day ahead, earnings took a bit of a back seat yesterday given the fairly quiet calendar, however that gives us a good chance to take stock of where we’re up to now. Based on Friday’s close we’ve now had 316 S&P 500 companies report with 63% beating on EPS with a weighted average beat of 2.4% (20% have missed). On the sales side, 34% have beat with a weighted average beat of 0.9% and 29% have missed, with the remainder in line. Despite the earnings beats, EPS YoY growth is now -2.2% for the index, although that jumps to +2.8% ex-energy. Sales YoY growth is -0.6% and +2.8% ex-energy. We’re still seeing the same pattern of analyst EPS cuts during the quarter prior to reporting however. While it’s not quite to the same extent as Q1 (c.-9%) or the 5y average (c.-4.2%), earnings have still been cut c.-3% this quarter which is aiding the beat ratio. We highlight that this data is based off DB’s David Bianco’s US equity insights publication and he also adds that analysts are continuing to cut Q3’16 EPS during this quarter. Indeed bottom up consensus EPS for next quarter is $30.40, down from $30.85 seen on 1st of June.

Looking at today’s calendar it’s a fairly quiet start to the day this morning with Euro area PPI for the June the sole release. Over in the US this afternoon we’ll get the core PCE and deflator readings for June along with the personal income and spending report. There shouldn’t be too much in this report because the figures were already incorporated into the Q2 GDP report on Friday. We’ll also get the ISM NY reading, while later this evening it’s worth keeping an eye on the July vehicle sales data. Our US economists note that these should rise but only incrementally compared to June. In the past the trend in vehicle sales has tended to lead the trend in overall consumer spending and so if vehicles sales continue to moderate, it would provide early evidence that we have likely seen the peak in consumption growth for the cycle. One to keep an eye on. Away from the data the Fed’s Kaplan is due to speak again (11.15am BST) while earnings will also be back in the limelight. Today we’ve 40 S&P 500 companies reporting including Pfizer and Procter & Gamble (both prior to the open). In Europe BMW is due to report.