Global markets have started the week in a bad mood. It's a consistent theme with global equity indexes nearly all lower, bond yields falling and the US dollar strongly bid. It's the 2022 version of the 'risk off' trade and it comes after the relative calm in last week's trade.
Why the change in mood? Here are the five reasons:
1) China covid return
China has put itself in the near-impossible position of trying to keep covid-19 cases near zero. There has been another series of outbreaks, parts of Shanghai have been locked down and several major districts will see two rounds of mandatory testing from July 12-14. Worse yet, officials said the sub-variant is Omicron BA.5.2.1, which is believed to be more-transmissible. We've been through this before but it underscores that China is in a never-ending, growth-destroying fight without a long-term strategy.
2) European natural gas cutoff
Today Russia began a scheduled 10-day maintenance shutdown of the Nord Stream 1 pipeline that delivers the bulk of European natural gas. There are growing fears it will be permanent because Russia has been tapering supplies. Obtensibly, this was due to a turbine issue but Germany's Chancellor said that excuse doesn't add up. On Sunday, French finance minister Bruno Le Maire told an economic conference the "most likely scenario" of a total-cut off of Russian gas. That would be catastrophic for French industry and made worse because of the Freeport LNG outage. Gas and power prices in Europe are already at crushing levels and this would put the continent into a deep recession.
3) Emerging market turmoil
The images of rioters in Sri Lanka storming the residences of leaders and swimming in the President's pool were a reminder of the potential instability due to high food and energy prices. Protests elsewhere and in Europe are also intensifying. There has been some cooling in commodity prices but it's come along with further emerging market currency declines, which keeps the prices extremely high for locals.
4) Bank liquidity problems in China
This one is a bit of a black swan but lineups and violence outside Chinese banks this weekend spooked the market. There are reports of liquidity problems and depositors who can't get their money from four rural banks. The main protest in Zhengzhou was met by guards and white-shirted agents who beat them back. There are allegations of illegal-fundraising schemes by third parties using the banks, so I don't think there's anything systemic here protests in China are troubling.
5) USD/JPY hitting new highs
The dollar is getting an extra lift today after USD/JPY strengthened to a high of 137.75, which is the highest since 1998. It got a push from Bank of Japan Governor Kuroda saying what he always says: That the BOJ will maintain ultra-loose policy. The market is starting to believe it though and that's intensifying the rush out of the yen. Traditionally, the yen is a safe haven but it's not acting that way in this cycle because of low-rate policies. Instead, that money is flooding into the US dollar, pushing it ever-higher.
