Updated: 01-09-2017

PMIs and Eurozone Inflation Jump
Updated: 06-Jan-17  04:32PM ET
Analyst: David Kelland

This week's calendar harbored a flood of purchasing managers' index (PMI) releases for the U.S., Europe, China, and Japan. PMIs are very useful in that they come out well ahead of data recording actual economic activity, like industrial production or retail sales. The downside of PMIs is that they weight firms equally no matter how much large the company and they ask only if the respondents are seeing conditions improve or deteriorate - not by how much. In theory, lots of small firms could see conditions improving modestly while very large firms could experience sharp deterioration and that would make the PMIs incorrectly strong. Most of the time though, these mismeasurements should average out and the reading should be indicative of business health.

While many different PMIs for December came out better than expected this week, the ISM Services Index in particular ran at 57.2 for the second month in a row (Briefing.com consensus 56.6) and that is a level that has historically indicated annual U.S. GDP growth of 3.3%. The ISM Manufacturing Index also beat estimates (54.7 vs. Briefing.com consensus 53.6) but the service sector accounts for five to six times as much output as manufacturing, so it's more important.

Moving on to inflation data, the eurozone's CPI grew at 1.1% y/y in December, the fastest rate since September 2013. Core inflation was up just 0.9% y/y, firmly within its range since May 2015. Officials at the European Central Bank are still unconvinced that inflation is likely to move up to their 2% target without extreme policy accommodation. The ECB's asset purchase program is set to buy EUR780 bln of securities in 2017 and so far policymakers appear ok with that. The German's are grumbling more loudly but then again, they never supported asset purchases to begin with. Friday's release of the U.S. jobs report showed that average hourly earnings grew at 0.4% m/m in December and 2.9% y/y. The latter rate was the highest of the post-crisis economic recovery.

So the economic data is good or even better than good. It does now appear that luxury real estate prices will be struggling to appreciate as supply surpasses demand in places like Manhattan. That development does not appear to be a systemic risk yet but is something to watch.

We have been saying on the bond page since early December that traders should be bracing for a rally in Treasuries after the brutal decline that began on July 6, 2016. The 30-year yield touched its 50-day moving average at 2.949% on Friday morning after the jobs report and closed up around 3.00% (see chart below). The extent of the retracement in the bond yield from its 3.20% high was also nearly 23.6% at today's low, the first Fibonacci retracement (23.6%, 38.2%, 50%, 61.8%). As one of my good trader friends likes to say, retracements should be shallow enough that you can't get much size on or deep enough that you don't want your position by the time the correction is done. So far, there is still a chance that it will be the former this time.

- David Kelland, Briefing.com 

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