Trading Day: Markets twitch, volatility stirs

By Jamie McGeever

ORLANDO, Florida (Reuters) -Worries over the health of the U.S. consumer helped push Wall Street deep into the red on Monday, as investors also braced for Nvidia's earnings and the resumption of key U.S. economic data releases later in the week.

More on that below. In my column today I look at how the deflationary pressures that have clouded China's economy for years could have global ripples. If so, it will provide some crumbs of comfort for policymakers in Washington.

If you have more time to read, here are a few articles I recommend to help you make sense of what happened in markets today.

1. Retail investors show less conviction in buying U.S.stock market dips 2. Trump cuts tariffs on beef, coffee and other foods asinflation concerns mount 3. Japan's economy contracts for first time in six quarterson tariff hit 4. China and Germany agree to work on closer commercialties, end trade tensions 5. Tech blues, shifting Fed/ECB sands and euro haven?: MikeDolan

Today's Key Market Moves

* STOCKS: Wall Street indices down between 0.9% and 2%,small caps underperform; Europe also down across the board, Asiamostly lower but South Korea +2%, India up for sixth day. * SHARES/SECTORS: U.S. energy and financials slide 2%,tech and materials -1.5%. Comms services and utilities the onlygainers. Alphabet +3% to new record, Dell -8%, Super MicroComputer -7%. * FX: Dollar rises broadly, USD/JPY back above 155.00,Bitcoin hits seven-month low below $92,000. * BONDS: U.S. yields down 1-2 bps across the curve. UKgilt yields fall further, retracing some of Friday's surge. * COMMODITIES/METALS: Oil down around 0.3%, gold -1.4%.

Today's Talking Points

* Volatility makes belated return

The VIX "fear index" of implied volatility on the S&P 500 posted its highest close in a month on Monday, and third-highest since May. One-month implied vol in euro/dollar, the world's most traded currency pair, also rose to its highest level in a month.

A sense of unease is rippling across markets, and with hopes of another Fed rate cut in December fading, now seems as good a time as any for investors to take profit on highly profitable trades this year - long stocks, short dollars among them.

* Crypto crumble?

On a related note, such is the volatile nature of cryptocurrencies, a near-30% fall in bitcoin in just six weeks may not be all that remarkable. After all, bitcoin had a similar slump earlier this year before powering to new highs in the "everything rally" from the post-Liberation Day low in April.

But the current slide into a bear market is notable. If you think bitcoin is a reasonable proxy for wider market sentiment, risk appetite and speculative activity, investors are drawing in their horns ahead of year-end. The next few weeks could be bumpy.

* GDP slump fuels Japan stimulus debate

Figures on Monday showed that Japan's economy shrank in the three months to September, its first decline in six quarters. The good news, however, was the 1.8% contraction was not as deep as the 2.5% fall economists had expected.

The data will stoke the already-crackling debate around economic stimulus. One government official is now calling for a fiscal package worth nearly $150 billion, and Bank of Japan governor Kazuo Ueda is warning against keeping monetary policy too loose. All the while, the yen is back below 155 per dollar into potential intervention territory.

China could give the U.S. a disinflationary hand

As policymakers in the United States fret about getting inflation back down to target, they may inadvertently get a helping hand from an unlikely source.

    The U.S.'s main economic rival China is struggling to slay the specter of deflation. It's a domestic battle officials in Beijing are nowhere near winning, despite some glimmers of hope in recent official data.

    China's annual consumer inflation was marginally positive in October, but producer prices fell year on year for the 37th consecutive month. 

    What's more, fixed asset investment last month plunged 1.8% - excluding the pandemic shutdown, the biggest fall since comparable records began 30 years ago - and the 10-year bond yield is stuck at a lowly 1.8%. Neither points to an economy on the verge of a reflationary expansion.

    Domestic disinflation has been a feature of the world's second-largest economy for the better part of three years. These pressures have become entrenched, most notably in housing. But many other industries, including autos and green technologies, have also been blighted by overcapacity, intense competition and margin-wrecking price cuts.

    So much so, Beijing has responded with an "anti-involution" campaign to get companies and local authorities to stop the rot, reverse course, and generate sustainable inflation. 

    But there are doubts around Beijing's commitment to this. Many economists say the steer from the ruling Communist Party's five-year planning meeting, or "plenum", last month shows that authorities continue to prioritize preserving manufacturing strength over boosting domestic consumption. 

    With domestic demand still so sluggish, Chinese firms are responding with a familiar tactic: selling abroad, even if it means cutting prices to maintain market share. Exports are soaring, and China is flooding some of its key trading partners with cheap goods. 

    Brad Setser, senior fellow at the Council on Foreign Relations in Washington, says China's surplus in manufactured goods easily exceeds $2 trillion. That's around 10.5% of the country's GDP, and more than 2% of world GDP, "a surplus that far exceeds the combined surpluses of Germany and Japan at their peaks."

    Importantly, China is increasingly exporting to other Asian markets. Torsten Slok, chief economist at Apollo Global Management, says Chinese exports to Asia this year are up $150 billion, double the $75 billion drop off in exports to the U.S.

    So, despite the ongoing trade war, the world is still awash with Chinese goods. 

CHINA'S NEW EXPORT BOOM

    But this surge is different from China's previous export boom. 

    Back in the early 2000s, China was the factory to the world, flooding the global economy with cheap goods from T-shirts to TVs. The deflationary supply shock was strong, and consumers in the U.S., Europe and other large markets took full advantage.

    Today, China is much further up the production value chain, and its competitors are no longer low-cost emerging economies, but advanced manufacturing nations like Japan and Germany. 

    China now makes and sells autos, electric vehicles, solar panels and other high-quality goods. As CFR's Setser notes, China currently exports well over 6 million cars, about a tenth of the global auto market outside of China, and these exports are expected to reach 8 million next year. No wonder Germany and Japan are nervous.

    "China is doubling down on its export led growth model. The difference is now we're talking about more capital and intermediary goods," says Innes McFee, chief global economist at Oxford Economics.

DISINFLATION NATION

    Will this new supply shock from China be enough to help cap or even push down global prices? Perhaps. 

    McFee's colleagues at Oxford Economics estimate that a broad 10% fall in Chinese export prices would push down producer prices in the U.S. by 0.1-0.2%, and by around 0.6% in Southeast Asia. Chinese domestic industry disinflation of 10% would increase those hits to 0.3% and 1.6%, respectively, they estimate.

    That's a meaningful impact.

    China's latest domestic signals suggest disinflation in the country could be a force for some time.

    While this weak price environment may continue to worry policymakers in Beijing, it could, at the margins, offer some comfort to those in Washington.

What could move markets tomorrow?

* Australia RBA minutes * U.S. durable goods (August) * U.S. TICS capital flows (September) * U.S. Federal Reserve officials scheduled to speak includeDallas Fed's Lorie Logan, Richmond Fed's Thomas Barkin, andGovernor Michael Barr

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Opinions expressed are those of the author. They do not reflect the views of Reuters News, which, under the Trust Principles, is committed to integrity, independence, and freedom from bias.

(By Jamie McGeever; Editing by Nia Williams)