Flash euro area PMIs highlight hit to services

Chris Scicluna
Emily Nicol

Markets mixed on Friday as Trump-Biden debate proves civil
Signs of progress towards a fiscal stimulus deal between House Democrats and the White House gave Wall Street a modest lift on Thursday, with the S&P500 climbing 0.5%. In the bond market Treasury yields moved higher and the curve steepened, with the 10Y yield moving to a 4-month high of 0.85%. In the currency markets the US dollar strengthened somewhat, especially against the euro where the rapidly rising coronavirus cases numbers risk sending recovery into reverse. Indeed, with some unease ahead of the flash European PMIs, US equity futures fell back a touch from the close, despite a remarkably civil final presidential debate between President Trump and former Vice-President Biden.

The flash PMIs from France and Germany duly reported a weakening of economic activity in October, particularly in the former county where the services sector has been hit particularly hard by new restrictions. But they were not all bad news, with further big improvement reported in Germany’s manufacturing sector. And so, European markets don’t appear perturbed so far, with stocks having opened higher in the region albeit with euro govvies a touch firmer too.

With a few exceptions, however, Asian stock markets largely edged higher at the end of the week. In Japan, where the October flash PMIs pointed to a welcome lift in new orders – especially export orders – the TOPIX increased 0.3%. In contrast, however, in China, where attention is now firmly on next week’s plenary session of the CPC at which it will discuss the next 5-year plan for the economy, there was a late slide in the stock market to see the CSI 300 currently trading a little more than 1% lower on the day. In currency news the yuan was stable after a SAFE spokesman said that the currency’s appreciation had been relatively moderate and driven by fundamentals, but balanced this by confirming it was mulling easing limits on cross-border investment by domestic institutions and individuals, perhaps by raising the Qualified Domestic Institutional Investor (QDII) Quota.

Euro area flash PMIs highlight hit to services from the 2nd wave, but German manufacturing accelerates
All eyes in the euro area today are on the October preliminary PMIs. Given the revival in the pandemic, the services PMIs weakened significantly last month. And as a result of the further marked intensification in the spread of Covid-19 over recent weeks, ongoing deterioration was firmly expected to be the message for October. Indeed, the first release – from France, where the daily number of new cases has recently risen above 40k and night-time curfews extended to several cities – was even weaker than expected. In particular, the flash French services activity PMI fell a further 1pt in October to a 5-month low of 46.5. And with the manufacturing output index down 2.3pts to 51.0, also a 5-month low, the composite PMI likewise fell to the lowest since May, dropping 1.5pts to 47.3, consistent with an economy that has shifted firmly into reverse.

Germany’s services PMIs were also significantly weaker, with the activity index dropping 1.7pts to just 48.9, a four-month low. But contrary to expectations of a decline, the headline manufacturing PMI rose 1.6pts to a robust 58.0, the best in more than two years. And Germany manufacturing output index leapt 2.5pts to 64.9, the best in almost a decade. So Germany’s composite PMI edged down just 0.2pt to 54.5, consistent with continued recovery. Nevertheless, the deterioration in services means that the euro area composite PMI is bound to slip back from 50.4 in September, and fall below the key 50 level for the first time since June.

Japan’s core CPI edges higher, but near-term outlook remains very weak
Earlier this month the advance report from the Tokyo area had pointed to a modest decline in consumer prices at the headline level in September, but a modest lift in prices at the core level. Today’s nationwide CPI report from the MIC confirmed that these developments were replicated elsewhere in the country.

After adjusting for seasonality, the national headline CPI index declined 0.1%M/M in September, led by a 0.5%M/M decline in the price of fresh food and a 0.8%M/M decline in the price of energy. As a result, annual inflation eased by a further 0.2ppt to 0.0%Y/Y – the weakest result for 4 years but in line with market expectations. However, the core index forecast by the BoJ, which excludes fresh food prices, increased 0.1%M/M in September, causing annual inflation on this measure to increase 0.1ppt to -0.3%Y/Y. The narrower measure of core prices preferred by the BoJ – which excludes both fresh food and energy – also increased 0.1%M/M, causing annual inflation on this measure to rise 0.1ppt to 0.0%Y/Y. Meanwhile, the even narrower measure of core prices used in many other countries, which excludes all food and energy prices, increased 0.2%M/M, causing annual inflation in this measure to rise by 0.1ppts to -0.3%Y/Y. The measures of core inflation were 0.1ppt firmer than had been expected based on Bloomberg’s survey of analysts. But of course, when excluding the impact of last year’s consumption tax hike, all measures of inflation remained firmly in negative territory.

In the detail, after declining over 18%M/M last month – due to the Government’s ‘Go-to-Travel’ subsidies – hotel charges fell a further 9.7%M/M in September. However, that decline was less than that seen in September 2019 – summer discounts always wind down this month – causing the annual drop in prices to ease to 30%Y/Y from 32%Y/Y in August. So while services prices fell 0.4%M/M in September, the annual rate of price decline in the service sector eased to 0.9%Y/Y from 1.0%Y/Y previously. Goods prices increased 0.3%M/M in September, but annual inflation for these products still eased 0.4ppt to 1.0%Y/Y. However, excluding prices for fresh food, annual goods inflation was steady at 0.3%Y/Y. Inflation for industrial products remained steady at 0.6%Y/Y, but declined 0.1ppt to 1.9%Y/Y once the impact of lower energy prices is excluded.

Looking ahead, next month will see the first round impact of last year’s consumption tax hike fall out of the annual inflation calculation, as will the opposing impact of last year’s free education policy which lowered the price of school fees by almost 13%. But with the Government having extended its support for the hospitality sector with a new “Go-to-Eat” campaign, allowing consumers to purchase vouchers until the end of January that provide a 25% discount on restaurant meals, core inflation is certain to remain very weak for the foreseeable future.

Japan’s composite PMI posts small increase, but new orders firmer
Today’s other key report in Japan was the flash PMIs for October. Disappointingly, the composite PMI increased just 0.1pt to 46.7 – an 8-month high but still 2pts below the average for this series. More positively, the more forward-looking composite new orders index increased 1.2pts to a 9-month high of 47.5, albeit still a below-average reading for the series. The composite output prices index edged down 0.1pt to 49.2, but this remains well above the lows reached at the heights of the first wave of the pandemic in April and May.

Conditions improved somewhat in the factory sector, with the headline manufacturing PMI increasing 0.3pt to a 9-month high of 48.0. In the detail, the output index increased 1pt to an 8-month high of 47.0. Even more positively – and doubtless helped by the economic recoveries in China and the US – the new export orders index increased 2.2pts to a 23-month high of 49.5. Domestic conditions appear less buoyant, although the new orders index did lift 0.5pt to 45.8 – a 9-month high but still more than 4pts below the historic average. And despite the generally firmer tone of the survey, the employment index fell 0.2pt to 49.6. The inflation news from the factory sector was firmer, with the input prices index rising 0.4pt to 51.6 and the output prices index rising 0.6pts to 50.0 – the latter a 9-month high.

Turning to the services sector, the news was a little more mixed. Disappointingly, the headline business activity index declined 0.3pt to 46.6 in October. However, the new orders index increased a welcome 1.5pts to a 9-month high of 48.3. Similarly, the business expectations index increased 2.2pts to a 20-month high of 55.5. The news on inflation was mixed, with the input prices index rising 0.2pts to 49.8 but the output prices index falling 0.4pts to 48.9.

Japan’s labour cash earnings decline an unrevised 1.3%Y/Y in August
In other Japanese news, the MHLW released the final results of its Monthly Labour Survey for August. This report confirmed that average labour cash earnings (per employee) declined 1.3%Y/Y, with some offsetting revisions in the detail. Average overtime earnings fell 13.5%Y/Y, which was a slightly smaller decline than first reported. Overtime hours worked grew 1.5%M/M – less than first estimated – and so were down 14.1%Y/Y. However, regular earnings fell 0.3%Y/Y in August – 0.2ppts weaker than first estimated. This reflected a downward revision to average regular hours worked, which have declined 4.5%Y/Y. The number of people in regular employment increased an unrevised 0.3%M/M in August and so was up 0.8%Y/Y. However, revisions have lowered growth in full-time employment to 1.6%Y/Y (now unchanged from July) but reduced the decline in part-time employment to 1.0%Y/Y (an improvement of 0.4ppts from July).

UK retail sales maintain uptrend as spending diverts away from services
UK retail sales posted a fifth consecutive month of firm growth in September, beating the market consensus forecast by rising 1.5%M/M in volume terms, to be up 4.7%Y/Y and 5.5% above February's pre-pandemic level. As a result, sales volumes were also up 17.4%Q/Q in Q3, perhaps unsurprisingly the most on record and probably slightly above the growth rate in GDP last quarter.

Almost all categories of sales rose in September, as consumers continued to divert spending from face-to-face services to goods. So, for example, sales at food stores rose 0.7%M/M to be 3.7% above the pre-pandemic level, anecdotally benefiting from some renewed stockpiling of essentials as the second wave of pandemic developed momentum. And sales at non-food stores were vigorous, rising 4.0%M/M to move 1.7% above their February levels.

Within that rather broad category, sales at household goods stores rose 0.9%M/M to rise 11.0% above the pre-pandemic level, boosted by demand for home improvements and electrical goods amid increased working from home. But while clothing store sales rose for a fifth successive month and by a firm 3.6%M/M, they were still down 12.7% on the same basis. And non-store sales slipped back for a third successive month, dropping 1.9%M/M. Nevertheless, online sales were still 36.6% above the pre-pandemic level, accounting for 27.5% of all sales compared with 20.1% in February. Fuel sales were little changed on the month to remain 8.6% below the pre-pandemic level.

Whilst we expect retail sales to remain firmly above the pre-pandemic levels over coming months, as households maintain an increased level of spending on goods at the expense of spending on hospitality, leisure and transportation, increased joblessness and unease about the future will in due course likely take a toll on spending. Indeed, the latest GfK consumer confidence survey offered a predictably gloomy assessment of conditions at the start of Q4, with the headline balance declining 6pts to -31, its lowest reading since May and just 3pts above the post-pandemic trough.

There was widespread deterioration reported within the detail of the consumer survey too, with consumers reporting a notable deterioration in their expectations for the economic outlook. As such, households’ willingness to buy durable goods fell further in October, with the survey component at its weakest since May. And while the Chancellor yesterday announced a substantive increase in fiscal support to business, including a more generous ‘Job Support Scheme’ to enhance incentives to firms to retain staff, consumer sentiment seems likely to remain subdued, weighing on total spending over coming months.

Looking ahead to the flash UK October PMIs, we certainly expect to see some softening in the UK services indices in response to the revival in the pandemic and tighter restrictions on consumer-facing industries. Nevertheless, with yesterday’s CBI survey having suggested that activity in the manufacturing sector is holding up, the UK’s composite PMI is likely to remain above the key 50 mark, albeit probably falling to a four-month low from 56.5 in September.

Service sector recovery drives Australia’s composite PMI higher in October
Today also saw the release of Australia’s flash PMIs for October. Encouragingly, the composite PMI output index increased 2.5pts to 53.6. Excluding the strength seen in July – as activity rebounded after the removal of lockdown restrictions – this marked the highest reading since November 2018. Less encouragingly, the composite new orders index was barely changed with only favourable rounding permitting a 0.1pt increase to 51.2, while the composite new export orders index was steady at 48.5. However, the composite future output index increased 0.6pt to 78.8 – the best reading since August 2018. And the news on inflation was slightly more encouraging, with the output prices index rising 0.5pt to 50.0.

In the detail, all of the improvement over the past month occurred in the services sector, with the headline activity index rising 3.0pts to 53.8 – an outcome that was likely driven by the easing of lockdown restrictions in the state of Victoria. The new orders index rose just 0.2pt to 50.9 but the employment index increased 2.5pts to 48.4. By contrast, conditions appear to have weakened somewhat in the manufacturing sector albeit from levels that were relatively buoyant by historical standards. The headline manufacturing PMI fell 1.2pts to 54.2, with the output and new orders indices also falling 1.2pts to 52.3 and 52.7 respectively. And after rising by close to 6pts last month, the new export orders index fell a similar 1.1pts to 49.4. While generally encouraging, the PMIs are very unlikely to deter the RBA from easing policy next month.

New Zealand’s Q3 CPI misses expectation, adding to likelihood of further RBNZ easing
A reduction in discounting, together with seasonal price increases, was expected to deliver a stronger inflation reading in Q3. And while the CPI did rise 0.7%Q/Q, this outcome was 0.2ppt weaker than expected. As a result, the annual inflation rate unexpectedly declined by 0.1ppt to 1.4%Y/Y – the lowest inflation rate since Q118 and 0.4ppt weaker than the RBNZ had projected in its August Monetary Policy Statement.

Tradeables prices rose 0.6%Q/Q – also 0.4ppt less than the RBNZ had projected – resulting in an annual price decline of 0.1%Y/Y. More importantly, non-tradeables prices also increased just 0.6%Q/Q – 0.5ppt less than the RBNZ had projected – so that annual inflation for these items declined to a 2-year low of 2.6%Y/Y. Inflation would have been even weaker were it not for an 11.6%Q/Q jump in prices for fruit and vegetables. Excluding food, the CPI increased just 0.5%Q/Q and 0.9%Y/Y in Q3. On the other hand, the decline in fuel prices over the past year continues to suppress inflation, with the CPI ex-petrol index rising 2.0%Y/Y. As far as the key analytical measures of core inflation are concerned, the 10% trimmed mean increased 0.4%Q/Q, causing the annual trimmed mean inflation rate to slow 0.1ppt to 1.5%Y/Y. The RBNZ’s two model-generated measures of core inflation came in at 1.6%Y/Y and 1.7%Y/Y respectively, the former down 0.1ppt and the latter steady at a level now seen in seven of the last eight quarters. Of course, all these measures sit below the midpoint of the RBNZ’s 1-3% inflation target.

Needless to say, while today’s release is clouded by potential volatility caused by the impact of lockdown restrictions during part of the quarter – including difficulties created for statisticians in measuring prices – the measured downside surprise to inflation makes it even more likely that the RBNZ will seek to add further stimulus over coming months. At the very least, given its preference to risk doing too much rather than too little, we expect the RBNZ will announce the well-signalled Funding for Lending Programme on 11 November. And while the RBNZ – and domestic banks – might not yet be ready for a negative official cash rate, the Bank could opt to match any reduction that the RBA makes to its own target cash rate on 3 November.

US PMIs expected to show little change
On a relatively quiet end to the week for US data, the flash October PMIs are expected to show little change in the headline manufacturing and services indices, which stood at 53.2 and 54.6 in September.

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