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How to spot North Korea’s next nuclear test

A setback in Brexit talks, Xiaomi considers going public, and why Japan is to blame for the flattening Treasury curve. Here are some of the things people in markets are talking about.

Brexit Setback

(Bloomberg)-The Brexit breakthrough that many were hoping for Monday didn’t happen. London and Brussels failed to clinch a deal after a series of twists that saw a tentative agreement derailed by the delicate question of how to handle the Irish border. U.K. Prime Minister Theresa May traveled to Brussels Monday to meet European Commission President Jean-Claude Juncker for what was supposed to be a chance to hash out some of the finer details. However, May interrupted the luncheon to speak with the leader of the Northern Irish party that props up her government and also opposes the EU’s plan for the Emerald Isle post-Brexit. Shortly after the phone call, May and Juncker emerged to declare that no deal was reached. Talks will resume later this week, with some leaders still confident there will be an agreement.

Xiaomi IPO

Xiaomi, the Chinese smartphone maker that was once the most valuable startup in the world, is in talks with investment banks about a possible initial public offering and seeking a valuation of at least $50 billion, according to people familiar with the matter. The Beijing-based company is considering an offering as soon as next year with banks suggesting Hong Kong as the most likely destination. While banks have talked up Xiaomi’s prospects as they seek to win the mandate, they have concerns about whether the company can reach the $50 billion level, much less a $100 billion target that some top executives have embraced, the people said. Xiaomi last raised money in 2014 at a $46 billion valuation.

Markets Mixed

Gains in the Dow Jones Industrial Average were led by companies that stand to be winners from tax cuts, with progress coming  over the weekend on the Republican overhaul plan. Yet the Nasdaq was sharply lower as investors assessed a rally that’s propelled technology stocks to numerous records this year. The dollar strengthened against most of its G-10 peers,  while gold resumed its downward trajectory. West Texas crude fell below $58 a barrel amid worries that OPEC’s deal to extend production cuts may spur more U.S. shale output. Treasuries drifted higher during U.S. trading, paring losses from the Asia session. Long-end led gains fueled continued curve flattening, with the spread between five- and thirty-year debt reaching fresh multi-year lows.

Data Deluge

Tuesday is well and truly a data dump in Asia, with Australia at the center of matters even though the nation’s policy makers are expected to match a record 15-meeting stretch of inactivity by leaving the benchmark interest rate at its 1.5 percent nadir. That meeting comes after Australia delivers updates on balance of payments, retail sales and net exports. Elsewhere in the Asia-Pacific region we get South Korea’s BOP, inflation data for the Philippines and Taiwan and also PMIs for Hong Kong and Singapore.

The European day brings reports on industrial output in Spain, Sweden and Ireland, as well as European retail sales, and Irish unemployment. European Union finance ministers meet in Brussels to decide which countries to include on a tax-haven blacklist. The U.S. has data on the trade balance and services PMIs — which may show the sector’s growth rate held near a 12-year high.

Blame Japan for Flat Treasury Curve

Turns out we can blame Japanese bankers for the flattening Treasury Curve, according to analysts at Citigroup. They say that a combined uptick in currency-hedging costs and paper losses on Treasuries with short maturities has spurred Japanese lenders to decrease their exposure to short-dated U.S. debt in recent months. Japan’s commercial lenders typically use swaps to protect returns from foreign-exchange swings. Currency-adjusted carry from Treasuries with terms up to three years is now negative, and Japanese buyers are nursing losses on FX-hedged U.S. bonds that they snapped up in 2015, with interest-rate markets now pricing in a more hawkish Federal Reserve.

 

And finally, here’s what Chris is interested in this morning

 

A South Korean official once told me that Japan was the “living museum of our future.” That’s arguably true for most developed economies. Japan has for decades been at the leading edge of dynamics that its peers have come to face: a trenchant balance-sheet recession, an aging population, ultra-low inflation and interest rates. That’s why it’s worth taking note of an increasing concern among Japanese officials that’s been little noticed abroad: the condition of the country’s regional banks. These lenders are getting badly squeezed by demographic aging and decline, which undercuts demand for loans, and the compression of yields and spreads on fixed income thanks to the central bank’s mega stimulus. That’s forced them to double down on risk and move into foreign assets — which are decidedly not their area of expertise.

Not surprisingly, then, two of the worst performing stocks in the Topix Index this year are Nanto Bank and Ogaki Kyoritsu Bank, two hinterland lenders. Worries about the long-term solvency of this group of about 64 lenders are growing, and Bank of Japan and Financial Services Agency officials are increasingly talking about the problem. One outgoing Bank of Japan deputy governor devoted a key speech to the issue. It will be worth keeping an eye on how Japan deals with this problem, and the effects it has on the country’s financial system.

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