Is it going to be another May 17, when US stocks tumbled as concerns of a Trump impeachment over obstruction of justice and impeachment surged ahead of Comey’s testimony?

Overnight, S&P500 futures accelerated their decline following yesterday’s WaPo report that Special Counsel Mueller has launched a probe into potential obstruction of justice by Trump…

…   while European and Asian markets dropped dragged lower by commodities which reacted to the latest Fed rate hike, as copper dropped and oil fluctuated. The Bloomberg commodity index fell to the lowest in more than a year, pressuring miners and E&P companies which were among the big losers as the Stoxx Europe 600 Index retreated for a second day. The dollar advanced after the Fed raised interest rates for the second time in 2017 and Yellen suggested the strength of the U.S. labor market will ultimately prevail over recent weakness in inflation, which however the bond market strongly disagrees with, sending the curve the flattest its has been since October.

Traders were surprised as Yellen played down the recent drop in inflation and voiced confidence the central bank was on course to hit its 2% inflation goal, something it hasn’t done in three years. As Bloomberg notes, the Fed’s actions and words struck a careful balance between showing resolve to continue tightening in response to falling unemployment while acknowledging the persistence of unexpectedly low inflation this year. Adding to the uncertainty, the WaPo reported that the special counsel investigating Russia’s interference in the 2016 election plans to interview two top U.S. intelligence officials about whether Trump sought to “pressure” them to back off a related probe of former National Security Adviser Michael Flynn.

In China, overnight the PBOC injected net 90 billion yuan with reverse repos, strengthens CNY fixing to strongest since November, however unlike in March, this time the PBOC did not raise rates on its reverse repo operations, thereby not following the Fed by tightening further. Dalian iron ore slides two percent. Australia’s S&P/ASX 200 Index slumped 1.2% , with energy and raw-material shares dropping more than 2% . The Hang Seng Index slid 1.2 percent as Hong Kong followed the Fed’s move, elevating the risk of a selloff in the world’s priciest housing market.

European equities followed Asia’s lead, opening lower after the Fed raised rates for the second time this year. Subsequent dollar strength persisted while Treasuries were range-bound, having dropped after Yellen’s comments. French and Spanish bond sales pressured European fixed income; OATs extended losses, demand in 10Y Spain supply strong. WTI futures trade below $45, having dropped sharply on higher-than-expected U.S. inventories. Weaker-than-forecast U.K. retail sales helped push GBP lower, though largely driven by dollar gains, before the BOE decision at 12 p.m. in London.

S&P 500 futures dropped 0.7 percent as of 6:45am EDT. The index dropped 0.1% on Wednesday, while the tech-heavy Nasdaq indexes retreated 0.4%. The Dow Jones Industrial Average edged higher to a fresh record. The Stoxx Europe 600 Index retreated 0.7 percent.

The Bloomberg Dollar Spot Index rose 0.2 percent following three days of losses. The yen was little changed at 109.57 per dollar after climbing 0.5 percent Wednesday. The British pound weakened 0.4 percent to $1.2703 and the euro retreated 0.3 percent to $1.1181. The Australian dollar strengthened 0.3 percent after employment surged in May. The New Zealand dollar fell 0.5 percent as data showed the economy grew less than expected in the first quarter.

In rates, the 10-year Yield rose one basis point to 2.14% after dropping 8.5 bps Wednesday to 2.13 percent, the lowest level since November, a clear indicator that the bond market is convinced the Fed is making a mistake. The yield on benchmark U.K. bonds rose three basis points to 0.96% , while those of French and German peers also increased two basis points.

WTI swyng around the flatline before falling 0.1 percent to $44.70 a barrell, extending a 3.7% drop in the previous session. U.S. gasoline supplies unexpectedly rose for a second week. Gold rose less than 0.1 percent to $1,261.42 an ounce after sliding 0.5 percent the previous day.

Overnight Media Digest

• European bourses trade lower amid the negative lead from Asia post-FOMC
• EUR/USD has been on the back foot this morning and has now slipped back under 1.1200, but as we noted yesterday, strong demand anticipated in the 1.1150-60 area
• Looking ahead, highlights include US CPI, Retail Sales, DoEs and the FOMC rate decision

Market Snapshot

• S&P 500 futures down 0.7% to 2,420
• STOXX Europe 600 down 0.7% to 385.37
• Brent Futures up 0.3% to $47.13/bbl
• Gold spot up 0.1% to $1,261.89
• U.S. Dollar Index up 0.2% to 97.14
• German 10Y yield rose 1.7 bps to 0.243%
• Euro down 0.3% to 1.1184 per US$
• Italian 10Y yield fell 4.1 bps to 1.649%
• Spanish 10Y yield rose 4.8 bps to 1.43%
• MXAP down 0.8% to 154.71
• MXAPJ down 0.8% to 502.18
• Nikkei down 0.3% to 19,831.82
• Topix down 0.2% to 1,588.09
• Hang Seng Index down 1.2% to 25,565.34
• Shanghai Composite up 0.06% to 3,132.49
• Sensex down 0.2% to 31,084.67
• Australia S&P/ASX 200 down 1.2% to 5,763.19
• Kospi down 0.5% to 2,361.65

Top Overnight News from Bloomberg

• Mueller Said to Examine Whether Trump Sought to Slow Flynn Probe
• Messaging Startup Slack Said to Draw Interest From Amazon.com
• Rand Weakens as South Africa Says Mines Must Be 30% Black- Owned
• U.K. Retail Sales Fall More Than Forecast as Squeeze Hits
• Hammond to Make Public Case for Brexit That Protects Economy
• SNB Keeps Key Rate on Hold as Inflation Forecasts Trimmed
• Supply Weighs on EGBs; Block Trades in Bunds, Downside in Schatz
• New U.S. Carrier Hobbled by Flaws in Launching, Landing Planes
• Western Digital Seeks Injunction to Block Toshiba Chip Sale
• Hammond to Make Public Case for Brexit That Protects Economy
• Netlist Sues SK Hynix for Patent Infringement in California
• Columbia Sportswear Names Jim Swanson CFO
• Cummins Plans Electric Powertrain for Commercial Vehicles by ’19
• CALC to Buy 50 Boeing 737MAX Aircraft for List Price of $5.8b
• Yahoo Reports Alibaba VWAP, Prices for Shares in Tender Offer
• Hilton Grand Vacations Holder Blackstone Offering 9.65m Shares
• Flex Gains After Jabil 3Q Rev. Beats; Benchmark, Plexus May Move
• AveXis Reports Alignment With FDA on Manufacturing; Shares Rise
• Carney’s Quiet Period Ends With U.K. Demanding Attention
• MUFG Said to Consider Shrinking Headcount by 10,000 Over Decade
• Deutsche Bank Said to Create New Global Capital Markets Unit

A cautious tone gripped Asia with most major bourses negative following a similar showing in US, after the Fed hiked rates as expected but caught markets off guard with details on how it expects to begin its balance sheet normalization. This dampened ASX 200 (-1.2%) and Nikkei 225 (-0.3%) from the open, with underperformance in the former due to a commodity rout in which WTI crude futures fell over 3% on a narrower than expected draw in headline DoE stockpiles. Hang Seng (-1.1%) was also among the laggards after the HKMA raised base rates in response to the Fed hike and warned of property sector risks, while the Shanghai Comp. (+0.1%) traded choppy with downside stemmed by a firm liquidity effort by the PBoC and as participants digested the latest mixed loans and financing data. 10yr JGBs were higher amid a cautious risk tone in the region and the BoJ’s presence in the market for nearly JPY 700bIn of JGBs, while the curve flattened as the super-long end outperformed. PBoC injected CNY 50bIn in 7-day reverse repos, CNY 40bIn in 14-day reverse repos and CNY 60bIn in 28-day reverse repos. PBoC set CNY mid-point at 6.7852 (Prey. 6.7939).  Australian Employment Change (May) M/M 42.0K vs. Exp. 10.0K (Prey. 37.4K.) Australian Unemployment Rate (May) M/M 5.5% vs. Exp. 5.7% (Prey. 5.7%)

Top Asian News

• Anbang’s Woes Deepen as Banks Said Told to Halt Dealings
• BOJ Slowing Bond Buys Put Meeting Under Taper Talk Scrutiny
• MUFG Said to Weigh Shrinking Headcount by 10,000 Over 10 Years
• Philippine Overseas Workers Remittances Fall Most in 17 Months
• Graticule Hedge Fund Said to Part Ways With at Least 5 Staff

European equity markets opened lower in Europe, as an aftermath of the Fed was clear. The FOMC voted to increase interest rates by 25bps, to 1.00% – 1.25% as expected, however, what was less so expected was the optimism toward the US economy from Fed Chair Yellen. As such, 9/10 of the Stoxx 600 sectors trade in the red. Fixed income markets find themselves in subdued trade, as the futures dictated the majority of the move in US hours, following from the aforementioned Fed move. 10y Gilt futures followed GBP in taking no real attention to the UK retail sales, seeing misses across the board, however, upward revisions did soften the blow. Elsewhere, supply today from Europe has come from Spain and France with both auctions relatively well digested by the market.

Top European News

• U.K. Retail Sales Fall More Than Forecast as Squeeze Hits Home
• SNB Keeps Key Rate on Hold as Inflation Forecasts Trimmed
• DFS Plunges After Profit Warning, Leads U.K. Retailers Lower
• U.K. Sofas Join Tories in Election Slump as DFS Orders Plunge

In currencies, it was a quiet start to London trade in the aftermath of the FOMC announcements last night, where the 25bp hike was followed up with details on balance sheet reduction as well as a generally upbeat tone on growth, inflation and the labour markets. The overall impact was to redress some of the overly bearish USD sentiment, which has been justified on valuation levels against some of its major counterparts, but perhaps a little too zealously in the time frame(s) achieved. EUR/USD has been on the back foot this morning and has now slipped back under 1.1200, but as we noted yesterday, strong demand anticipated in the 1.1150-60 area, and if not then from 1.1120 again lower down. We have also seen USD/JPY gravitating somewhat nervously back towards 110.00 again, and we can only put this down to the lofty levels on Wall Street, which will have been perturbed by a Fed intent on maintaining the normalisation path. For GBP, it has not been a good week based on politics alone, but on the data front it is not much better, as the slightly higher than expected inflation read on Tuesday was followed up by a drop off in wage growth yesterday while retail sales fell more than expected in this morning’s release. This was marginally offset by prior revisions, but coming up is the BoE announcement, and it is hard to see past a cautious MPC have little alternative but to account for the fresh uncertainty propagated by Theresa May’s snap election and the unnerving end result.

In commodities, given the focus on political and central bank risks of late, the commodities markets have taken a backseat to a larger degree, but standout losses in Oil prices have been prominent, with the WTI taking out USD45.00 on the downside and showing no signs of giving up on even lower levels. On the week, the API build in Crude stocks was the first surprise, added to by the DoE draw which was smaller than expected. Amid the backdrop of growing US shale production, the prospect of a test towards USD40.00 looks ever likely, but there is a strong level of support to contend with down here. Still no change in the Brent premium, which has remained uniform inside USD2.00-2.50. Copper prices have slipped again noticably, making the breach of USD2.60 an all to brief affair, but elsewhere, we see Zinc and Lead showing 1.0% gains on the day, while Nickel is now flat. Gold was choppy over the FOMC last night, having raced up to USD1280 on the post data (inflation/retail sales) USD hit, but is now hovering in the low USD1260’s with Silver still camped below USD17.00.

Looking at the day ahead, we’ll kick off with the import price index reading for May, followed
then by the latest weekly initial jobless claims print and Philly Fed
manufacturing index for June. Following that we then get industrial and
manufacturing production for May before finishing with the NAHB housing
market index reading for June.

US Event Calendaar

• 8:30am: Empire Manufacturing, est. 5, prior -1
• 8:30am: Import Price Index MoM, est. -0.1%, prior 0.5%; Import Price Index YoY, est. 2.9%, prior 4.1%
• 8:30am: Export Price Index MoM, est. 0.15%, prior 0.2%; Export Price Index YoY, prior 3.0%
• 8:30am: Initial Jobless Claims, est. 241,000, prior 245,000; Continuing Claims, est. 1.92m, prior 1.92m
• 8:30am: Philadelphia Fed Business Outlook, est. 24.9, prior 38.8
• 9:15am: Industrial Production MoM, est. 0.2%, prior 1.0%; Capacity Utilization, est. 76.8%, prior 76.7%
• 9:15am: Manufacturing (SIC) Production, est. 0.1%, prior 1.0%
• 9:45am: Bloomberg Consumer Comfort, prior 49.9
• 10am: NAHB Housing Market Index, est. 70, prior 70
• 4pm: Total Net TIC Flows, prior $700.0m deficit; Net Long-term TIC Flows, prior $59.8b

DB’s Jim Reid concludes the overnight wrap

Plenty to get through today but only one place to start and that is with the Fed. As widely expected a 25bp hike in the fed funds rate was delivered lifting the target range to 1.00% to 1.25%. There were no real surprises in the dots either. The 2017 and 2018 median dots were left unchanged at 1.375% and 2.125% respectively implying one further rate hike this year (although 4 members expect 2 more hikes and another 4 members expect no more hikes). The 2019 median dot was rounded down marginally to 2.9375% while the longer run dot was left unchanged at 3%. All the talk though was about the relatively upbeat tone in the FOMC statement, particularly in light of the soft CPI data earlier in the day, a continuation of a somewhat hawkish tone by Fed Chair Yellen in the postmeeting press conference and finally some of the details released around the process of rolling-off the balance sheet.

Touching on those points in some sort of order, there were two notable takeaways from the FOMC statement initially. The first was the slightly more upbeat description of economic activity and the second was the acknowledgement that “inflation on a 12-month basis is expected to remain somewhat below 2% in the near term but to stabilize around the committee’s 2% objective over the medium term”. In the press conference Yellen added to this by saying that “we continue to feel that with a strong labour market and a labour market that’s continuing to strengthen, the conditions are in place for inflation to move up”. As a reminder this followed what was a pretty soft May inflation report released a few hours earlier. Both headline (-0.1% mom vs. 0.0% expected) and core (+0.1% mom vs. +0.2% expected) CPI missed which in  turn pushed the annual rates down to +1.9% yoy (from +2.2%) and +1.7% yoy (from +1.9%) respectively. The YoY rate for the core is now the lowest since May 2015. The Fed Chair sought to downplay the data in her press conference by saying that its important “not to overreact to a few readings” and also that the data can be noisy, while indicating that the recent prints also appear to be the result of one-off factors. In summary, despite having the opportunity to do so, it didn’t feel like the Fed sounded particularly concerned on the inflation front.

In terms of the balance sheet the most notable development was the FOMC announcing the decision to likely proceed with the balance sheet wind down later this year. Specifically, the statement revealed that “the committee currently expects to begin implementing a balance sheet normalization program this year, provided that the economy evolves broadly as anticipated”. There were further details also released which provided some guidance as to the process that the Fed expects to take. In summary the initial cap will be set at $10bn a month of which $6bn will be from Treasuries and $4bn from MBS. The caps will then increase every three months by $6bn for Treasuries until they reach $30bn and $4bn for MBS until they reach $20bn. Once they hit their maximum run off the Fed then expects that “holdings will continue to decline in a gradual and predictable manner until the committee judges that the Fed is holding no more securities than necessary to implement monetary policy effectively and efficiently”.

So where to now? Our US economics team have concluded that their expectations for Fed policy for the rest of this year are unchanged post the meeting. That is they continue to expect a formal announcement about unwinding the balance sheet at the September meeting, to start in October. They also expect a pause in the rate hiking cycle in September, followed by another rate hike in December, assuming that the economy evolves in line with the Fed’s expectations. They add that it is possible for the Fed to both raise rates and announce a shift in its balance sheet policy at the same meeting if the economy, labour market, and (most importantly) inflation surprise to the upside. But recent inflation data have raised the bar for such surprises. You can read more in their report here.

Over in markets the most significant move initially came after the soft inflation data. 10y Treasury yields plunged as much as 11bps to hit an intraday low of 2.101% and the USD sold-off as much as -0.78% from its highs. While the Greenback made a near-complete u-turn post the FOMC to finish little changed on the day Treasury yields only edged a couple of basis points off their lows. 10y Treasuries still finished the day 8.5bps lower in yield at 2.126% for the lowest close since November last year. The curve flattened fairly dramatically too. The 2s10s spread tightened over 5bps to 79bps and is now at the tightest since September 1st. As a reminder this was as high as 136bps in December. The low in 2016 was 75bps and should it tighten below that, then it will hit the lowest spread since 2007. The 5s30s spread of 105bps is only a smidgen off the YTD lows too. It’s worth noting that Oil tumbled -3.72% yesterday and below $45/bbl following the latest inventory data which didn’t go unnoticed for bond  markets. Meanwhile the S&P 500 finished a choppy session down -0.10% with the energy sector underperforming, while the Nasdaq (-0.41%) underperformed once again and fell for the third time in the last four sessions.

All that to look forward to but before we get there, this morning in Asia equity markets have mostly followed the lead from Wall Street in falling into the red. The Nikkei (-0.43%), Hang Seng (-0.90%), Kospi (-0.62%) and ASX (-1.12%) are all weaker with energy and commodity-sensitive names most under pressure. Bourses in China are little changed while US equity index futures are also slightly in the red. Sovereign bond markets have rallied with the antipodeans in particular around 5bps lower in yield. In FX the Aussie Dollar (+0.58%) has been the big outperformer following better than expected employment numbers in Australia this morning.

Back to yesterday. The other notable data release in the US was the May retail sales report. The data was also disappointing with headline sales falling unexpectedly (-0.3% mom vs. 0.0% expected) – the biggest one month decline since January 2016 – and ex auto and gas sales flat versus expectations for a +0.3% mom rise. The control group (0.0% mom vs. +0.3% expected) also missed although there was a reasonable upward revision to the April reading. Away from that business inventories in April fell -0.2% mom as expected.

In the UK the remaining employment data revealed that the ILO unemployment rate held steady at 4.6% in April while the claimant count rose 7k for the third consecutive monthly increase. Elsewhere in Europe CPI for Germany in May was confirmed at -0.2% mom and +1.4% yoy (unrevised from the initial flash reading) while industrial production for the Euro area was confirmed as rising +0.5% mom, bang in line with the consensus. European bond yields moved in tow with Treasuries following that soft US CPI data. 10y Bund yields finished the day down 4.0bps at 0.223% while OATs were 2.5bps lower at 0.579%. It was the move for Gilts which stood out however with the rally clearly supported by that soft wage growth number. 10y Gilt yields plummeted 10.7bps to 0.927%, the lowest level since October last year and the biggest one-day rally since December 2nd.

Looking at the day ahead, this morning in Europe we’ll receive the final May CPI reports for both France and Italyfollowed by May retail sales data in the UK (core retail sales expected to decline -1.0% mom). Following that we’ll get the April trade balance for the Euro area before attention turns over to the aforementioned BoE policy rate decision at midday. This afternoon in the US there are a number of reports due out. We’ll kick off with the import price index reading for May, followed then by the latest weekly initial jobless claims print and Philly Fed manufacturing index for June. Following that we then get industrial and manufacturing production for May before finishing with the NAHB housing market index reading for June. Away from that we’ll also get the SNB rate decision today, while another event to keep an eye on is the Euro area finance ministers meeting in Luxembourg where debt relief for Greece is expected to be discussed.

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