U.S./China relations worsen

June 1, 2020 Chatham Financial

Prior week summary

The major U.S. equity indices marched higher for a second consecutive week, capping an end to a solid month of gains, as the gradual reopening of the U.S. economy and optimism over the prospects of a COVID-19 vaccine buoyed investor sentiment in the face of worsening U.S./China relations and grim domestic economic data. Tensions between the U.S. and China continued to rise last week as the introduction of a yet-to-be-drafted national security bill threatened the “one country, two systems” arrangement. Since the 1997 handover of Hong Kong to China, Hong Kong has enjoyed special treatment from the U.S. so long as its legislative and executive autonomy remained intact. With the passing of the national security bill by China’s National People’s Congress on Thursday, Hong Kong’s autonomy has been questioned and many U.S. officials have denounced the new bill, including Secretary of State Mike Pompeo who certified to Congress on Wednesday that Hong Kong no longer enjoys a “high degree of autonomy” from China. Speaking on China’s national security bill on Friday, President Trump announced that his administration would strip Hong Kong of its special status as a result of the bill saying, “China's latest incursion, along with other recent developments that degraded the territory’s freedoms, makes clear that Hong Kong is no longer sufficiently autonomous to warrant the special treatment that we have afforded the territory since the handover.” In response to the U.S. decision to strip Hong Kong of its special status, Beijing has instructed state-run agricultural companies to pause purchases on some U.S. goods as the country evaluates the recent rise in tensions between the two sides.

Grim domestic economic data continued to roll in last week, highlighting the severe economic toll that the U.S. economy has incurred as a result of the COVID-19 outbreak and the nationwide lockdowns that state goverments imposed in an attempt to slow the spread of the virus. The second estimate of Q1 GDP indicated that the U.S. economy contracted at an annualized pace of 5.0% in the first quarter, falling below the -4.8% estimate and posting significantly lower than the 2.1% pace seen in the fourth quarter of 2019. While first-quarter GDP has proved dismal, analysts warn that GDP in the second quarter will be magnitudes worse than first-quarter GDP. At the moment, analyst consensus estimates are calling for the U.S. economy to contract by a 27.7% annualized rate in the second quarter. Jobless claims continued to mount with 2.12 million individuals filing for unemployment in the last week, bringing the 10-week running total to over 40 million claims. While jobless claims continue to roll in, many market participants took comfort in the continuing jobless claims figure falling to 21.1 million individuals, the first decline since the COVID-19 outbreak began. A host of Federal Reserve officials spoke during the week, most notably, Federal Reserve Chairman Jerome Powell. Powell indicated that the Federal Reserve’s long-awaited Main Street lending facility, which will provide loans to companies with up to 15,000 employees, is nearly ready to kick off. Speaking on the new program on Friday, Powell said, “We’re days away from making our first loans in Main Street. We have three facilities that are part of it. They’re meant to reach out to different parts of that broad space. In the meantime, many of those companies are finding that they can borrow from banks. Others are waiting for us to get our facilities up and running,” and noted, “It is far and away the biggest challenge of any of the 11 facilities that we’ve set up.”

The look forward

Market participants are gearing up for a busy week of economic data releases with updated figures on the ISM Manufacturing Index, ISM Non-Manufacturing Index, factory orders, construction spending, and most notably, the May non-farm payroll report dotting the economic calendar.

Rates snapshot

 

Market implied policy path (Overnight indexed swap rates)

Source: Chatham Financial

 


Disclosures

Chatham Hedging Advisors, LLC (CHA) is a subsidiary of Chatham Financial Corp. and provides hedge advisory, accounting and execution services related to swap transactions in the United States. CHA is registered with the Commodity Futures Trading Commission (CFTC) as a commodity trading advisor and is a member of the National Futures Association (NFA); however, neither the CFTC nor the NFA have passed upon the merits of participating in any advisory services offered by CHA. For further information, please visit chathamfinancial.com/legal/notices/.

Transactions in over-the-counter derivatives (or “swaps”) have significant risks, including, but not limited to, substantial risk of loss. You should consult your own business, legal, tax and accounting advisers with respect to proposed swap transaction and you should refrain from entering into any swap transaction unless you have fully understood the terms and risks of the transaction, including the extent of your potential risk of loss. This material has been prepared by a sales or trading employee or agent of Chatham Hedging Advisors and could be deemed a solicitation for entering into a derivatives transaction. This material is not a research report prepared by Chatham Hedging Advisors. If you are not an experienced user of the derivatives markets, capable of making independent trading decisions, then you should not rely solely on this communication in making trading decisions. All rights reserved. 20-0168

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