Quarterly Outlook
Macro Outlook: The US rate cut cycle has begun
Peter Garnry
Chief Investment Strategist
Summary: The rally attempt yesterday in US equity markets failed, with the main averages closing near the lows of the day and little changed versus the previous day, while Japan and China came back on-line overnight after a three-day holiday this week, with Japan more upbeat and the latter suffering an ugly session. US treasuries rallied yesterday after a slightly disappointing April US ISM Services.
What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) – US equity markets tried to piece together a rally yesterday, but the attempt faded by later in the day as the Nasdaq 100 remained heavier than the S&P 500 and fell to a new low close, while the net result for the broader index was a miniscule gain on the day. The VIX has risen on this recent sell-off as one would expect, but has thus far failed to close above 20, which marked the bottom of the range for months prior to March.
Euro STOXX 50 (EU50.I) - impressive rebound yesterday closing the previous session’s big decline with STOXX 50 futures opening a bit higher again this morning in the top end of the recent trading range. If price action can sustain itself above yesterday’s close, then European equities could rally into the weekend and go after the 4,000 level again. News flow is still positive on earnings and the inflationary narrative is creating a tailwind for European equity indices heavy on materials, industrials, energy and financials.
Bitcoin (BITCOIN_XBTE:xome) and Ethereum (ETHEREUM_XBTE:xome). Bitcoin found support near 53k and turned around for a smart rally that refocuses attention on the key 59k pivot high, the last major bar ahead of the 64.8k top, although tremendous volatility and notable gains in the smaller coins is stealing most of the attention in the crypto space, including Ethereum, which managed another record high overnight near 3,550, just modestly above the prior high, before pulling back slightly.
EURUSD – this super-major currency pair continues to tease the key psychological level of 1.2000 and could struggle maintain altitude if the recent equity market consolidation develops into something more pernicious, as the USD tends to act as the market’s preferred safe haven when volatility picks up. The recent rally to 1.2100+ has helped to neutralize the prior sell-off, but support needs to come in around 1.1875 or higher if 1.2000 slips if traders are to maintain an upside focus.
GBPUSD and EURGBP – The Bank of England up today (see more below) and market expecting a fairly hawkish message as rate hike anticipation for an eventual move next year is near the high of the cycle. Will the BoE deliver? In GBPUSD, 1.4000 a clearly etched level on the charts, while EURGBP pivot levels are 0.8590 and then the cycle low. Scottish elections are also in the mix today as noted below and potentially have long-term implications linked to a possible eventual new independence referendum.
EURCHF – this pair is breaking down below 1.1000 after trying to establish a new range above that level, likely on the anticipation of a growth and optimism surge in the wake of the coming end of Covid lockdowns. One key coincident driver of the recent drop back below the recent range has been a deflation of save haven bond yields after German Bund yields, teased above cycle highs before dropping back sharply in recent days. There is still a gap to fill on the EURCHF chart toward 1.0900, but as long as EURCHF is mired well below 1.1000, it is difficult to point to strong sense of optimism on EU growth prospects.
Grain futures in Chicago trade higher again with CORNJUL21 climbing to a new 2013 high at $7.22/bushel as persistent drought concerns in Brazil and strong demand from animal feed producers buoyed the market. WHEATJUL21 and SOYBEANSJUL21 also trading at fresh eight-year highs. Drought hit Brazil the world’s second largest corn exporter isn’t expected to see rain in key growing regions for the next two weeks, thereby stressing the crop even more. The UN FAO will publish its monthly Food Price Index for April later today and it is expected to exceed the 24.5% year-on-year rise recorded in March.
Gold (XAUUSD) trades within striking distance of resistance at $1800, a level that has been rejected five times during the past two weeks. However, as inflation continues to become real buoyed in part by surging commodity prices, the US Treasury market is reacting by sending breakeven yields, an expression of inflation, to an eight-year high. With nominal yields holding steady this development has from a gold supportive perspective sent real yields deeper into negative territory, currently at minus 0.9%. A break higher could signal an initial move to $1820 with the 21-day MA providing support at $1871.
A hawkish Bank of England might provoke a selloff within Gilts, US Treasuries and European sovereigns (IGLT, IEF, TLT, VGEA). Today the BOE monetary policy meeting will set the tone not only for the UK market, but for global market. If the BOE starts to taper purchases under the quantitative easing program, we can expect Gilts, US Treasuries and European sovereigns to selloff amid increased fears of early tapering in the US. Gilts slid after the 2031 and 2046 bond auctions yesterday, but 10-year yields remained below their 0.85% resistance level. If yields break above their resistance level, they will find next resistance at 1%.
The US Treasury may face problems with the Federal debt limit adding to inflation and tapering worries (IEF, TLT). The US Treasury will not change the size of notes and bonds issuance until July. This is the first time in a year that size of refunding does not rise meaning that financing needs have peaked. However, there is an issue with the Federal debt limit. The Federal debt ceiling has been suspended until July, but if it is not extended it could give a headache to the Treasury to meet repayments. Although inflationary pressures and tapering fears affect the performance of US Treasuries in the short-term, the debt limit poses a threat for these securities in the mid-term. Overall, pressures are bearish for the US safe-haven and we still see 10-year yields rising to 2% around summertime.
What is going on?
US Biden administration supports waiving patent rights for Covid vaccines, in support of a WTO proposal that could speed global vaccine production. This elicited complaints from pharmaceutical company lobbyists that the move could prove counterproductive and raise the risks of poor quality counterfeits, and key vaccine-linked stocks were down sharply on the day, especially US-based Moderna (MRNA:xnas).
The composition of three of the largest commodity indices (BCOM, SPGSCI & DB Opt Yield) explains why energy and in particular crude oil benefit greatly from increased investment demand. For each dollar an investor puts into an index tracking ETF, ETN or swap note, somewhere between 30 and 60 cents is being invested into energy products from crude oil and fuel to natural gas. The main recipient however is Brent and WTI crude oil which receives between 15 and 30 cents of each dollar invested.
What are we watching next?
Elections to the Scottish parliament today. There are a series of local elections across the UK, but the most interesting are the elections for the Scottish Parliament, where it is anticipated that the Scottish National Party, which is in favour of an independent Scotland, is expected to gain an outright majority of the Scottish Parliament for the first time. This could lead to the SNP gunning for another independence vote after the 2014 vote failed, although UK Prime Minister Boris Johnson has vowed not to allow one and polls suggest that the vote is still very divided, with a narrow majority in favour of Leave (although a strong majority of youth are in favour of leaving).
Bank of England meeting today and will inevitably upgrade its outlook after the February projections proved far too pessimistic. One key guidance point to look for is whether the BoE shortens the anticipated horizon for inflation to sustainably reach 2%, which could further support the anticipation of rate hikes in play for next year. Another measure expected is the stretching out of the GBP 150 billion in QE for the full 2021 calendar year, which would mean a slight taper of purchases. Whether sterling can find additional support on these developments will depend on the general risk sentiment backdrop (a worsening equity consolidation not likely GBP supportive) and whether the market is reactive to the results of the Scottish parliamentary elections in coming days.
Earnings reports this week. Uber Technologies disappointed yesterday after the close with shares down 5% in extended trading. The company maintains the view that it can become profitable by year's end, but the company is still burning $682mn in a single quarter. Today, the key earnings to digest are those from Arcelor Mittal and Rio Tinto on inflationary pressures, and Volkswagen on its EV progress. Square and Zalando are important for sentiment in the payments and e-commerce industry respectively.
Economic Calendar Highlights for today (times GMT)
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