Summary: Market sentiment staged a recovery yesterday after US equities had slipped below important support, a possible bullish reversal, although the quality of the rally will be tested by the FOMC meeting tomorrow. Overnight, the Australian RBA raised rates more than expected with a 25-basis point hike. US treasury yields posted new highs, helping drive a capitulation lower in the gold price, where only the last shreds of price support are still in place.
What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) - US equities looked heavy yesterday with S&P 500 futures reaching lows at 4,056 as the US 10-year yield broke through the 3% level and ISM Manufacturing for April disappointing against estimates. However, flows reversed going into the late session and S&P 500 futures ended the session higher closing at 4,151 and pushing higher this morning. We expect low energy today as traders are positioning and waiting for the FOMC meeting tomorrow.
Hang Seng (HSI.I) and CSI300 (000300.I) - Hang Seng Index (HSI.I) and Hang Seng TECH Index (HSTECH.I) gained modestly. Earlier in the morning, shares of Chinese internet companies, in particular Alibaba sold off following a news report saying an individual with the last name “Ma”, which is the same as Alibaba’s Jack Ma’ had been put under “compulsory measures” in Hangzhou, the city in which Alibaba is based. Alibaba’s shares fell as much as 9% before it rebounded on clarification from the Hangzhou police that the individual’s name differed from that of Jack Ma. Shanghai and Shenzhen exchanges are closed for a 3-day Labor Day holiday.
Stoxx 50 (EU50.I) - Stoxx 50 futures are still stuck in the mud around the 3,700 level with the 50-day moving average still coming lower at 3,778 this morning. The overall picture has not changed for European equities. Input costs are still rising rapidly, the EU is getting closer to a deal to ban Russian oil by the end of the year, a cost-of-living crisis from energy and food that could cause deep disruption to consumer confidence, and earnings in Q1 have been mixed outside value industries such as mining, energy, and financials.
AUDUSD – the RBA lifted rates more than expected (some were looking for no move, consensus was for a 15-basis point move to hike the rate to a round 0.25%) with a move of 25 basis points and guided somewhat more hawkish than expected, judging from the reaction in Australian yields, where the 2-year yield rose another 15 basis points to a nine-year high. The RBA will also begin a slow quantitative tightening by not replacing maturing securities held in its portfolio (few are maturing this year). The AUDUSD jumped higher overnight to nearly 0.7150, aided as well by a bounceback in risk sentiment, and has so far narrowly avoided testing the hugely important 0.7000 level, although the rally has held poorly. Whether the pair can turn the page and rally sustainably will depend on the market reaction to the FOMC tomorrow night and sentiment and the outlook on China, especially whether a coming stimulus move boosts commodity prices key for Australian exports, like iron ore.
EURUSD – The US dollar has remained quite bid ahead of the FOMC meeting tomorrow, even with a solid comeback for risk sentiment yesterday, likely in part as US treasury yields continued to rise and posted new highs for the cycle, with the 10-year yield yesterday hitting the psychologically important 3.00% level for the first time since 2018. The EURUSD looks sticky around the 1.0500 level until something new comes along to shift the psychology – with a test of parity possibly looming for this pair if US yields continue to stretch higher, tightening global liquidity. The FOMC meeting tomorrow is a key test on that front and could bring relief if the Fed is finally seen as getting sufficiently hawkish to gain credibility on fighting inflation by slowing the economy and thus taking down longer yields.
Gold (XAUUSD) took a tumble on Monday with multiple headwinds from US 10-year real yields turning positive to reach 0.15%, continued dollar strength and lower oil prices all playing their part, leading to a deterioration in the technical outlook. Below $1875, the market will now be looking for support at $1850 and more importantly $1827, the 61.8% retracement of the March 2021 low to March 2022 high. Ahead of tomorrow’s long-awaited FOMC meeting buying interest is likely to remain subdued. Silver led the recent sell-off with the gold-silver ratios reaching a 19-month high before the white metal found support ahead of key support in the $22 per ounce area.
Crude oil (OILUKJUL22 & OILUSJUN22) - China growth concerns, EU moves on Russian oil imports and tightness in the product market remain a key focus in the oil market. With crude oil remaining rangebound with Brent stuck in a $98 to $110 range, most of the action is taking place in a very tight refined products market, especially diesel after NY ULSD and ICE gasoil continued higher yesterday, thereby supporting crude oil as refineries scramble to ensure enough supply of feedstock. The OPEC+ meets virtually on Thursday and will likely rubberstamp another illusive production hike to avoid upsetting relations with Russia.
US Treasuries (TLT, IEF) – US treasury yields continued higher at the long end of the curve yesterday, with the 10-year Treasury yield trading to 3.00% briefly for the first time since late 2018, while the 2-year yield is not quite to new cycle highs above 2.78%, with the entire bond market awaiting the Fed’s guidance on rate- and quantitative tightening plans at tomorrow’s FOMC meeting.
What is going on?
The Reserve Bank of Australia (RBA) hiked rates for the first time since 2010, after receiving the hottest inflation read in 20 years, while forecasting inflation will surge to a peak of 6% in 2022. The RBA rose rates by 0.25% to 0.35% (vs a 0.15% hike expected). Market expectations now suggest the RBA will rise rates another 8 times after today’s move, which could take rates to 2.8% by the year end. But we think rates will rise further than that, given what happened today, plus many companies are forecasting inflation and supply shocks will linger this year. The hawkish move by the RBA caused the ASX200 to slide, and the AUDUSD to recover.
US Apr. ISM Manufacturing Survey misses, posting a 55.4 reading versus 57.6 expected and 57.1 in March, with the New Orders index at 53.5, and Employment at 50.9,
Worrying PMI indicators. In the eurozone, the manufacturing purchasing managers’ index fell to 55.5 in April. This is the lowest level in 15 months. Input price inflation accelerated to a five-month high, due to soaring fuel and energy costs, while producers’ selling prices rose the steepest in the last twenty years. This is certainly the most worrying. Straight after the release, the stock market tumbled. The French CAC 40 index dropped 3.45 %, for instance. This is clear that we have entered a new period of lasting inflation which will jeopardize many business models. In addition, China’s manufacturing sector contracted sharply in April. The manufacturing PMI was out at 47.4 versus 49.5 in March. This mostly reflects the impact of the lockdowns on the economy. On the bright side, India’s manufacturing PMI further increased in April, at 54.7 versus prior 54.0.
BP sees $29bn in writedowns. The Q1 results from BP are good with adjusted net come at $6.3bn beating estimated of $4.4bn, and the oil and gas major is announcing further buybacks. Capital expenditures for 2022 are unchanged at $14-15bn. The total writedown including Russian exit is $29.3bn in Q1.
Expedia (EPE) reported better than expected results after the market close and its shares rose 3.6% aftermarket The online travel agency reported revenue rose 80% y/y to $2.25b with its Trivago business revenue far beating expectations, while air revenue missed. It also guided for a stronger recovery in travel in the US summer.
Nutrien sees big jump in profit outlook. One of the world’s largest producers of fertilizer reported yesterday an extraordinarily strong outlook for the current fiscal year with FY adj. EBITDA guidance of $14.5-16.5bn vs est. $13.8bn. Prices on fertilizer is rising rapidly due to a combination of different factors as we described in yesterday’s equity note.
What are we watching next?
French parliamentary elections update. The election is scheduled for 12 and 19 June. A minority of investors are afraid that President Emmanuel Macron will not have a majority in parliament to implement his economic platform. This is not our view at Saxo Bank. We expect he will have a large parliamentary majority. Ahead of the election, the Left is trying to strike a union deal. Yesterday, the French greens and the far-left leader Jean-Luc Mélenchon (the third man of the 2022 presidential election) signed a partnership agreement. Communists could join soon (perhaps in the coming days). The Socialists are baulking at Melenchon’s intention to “disobey” European Union rules. But we think they will cross the Rubicon at the end of the day.
FOMC meeting this Wednesday. This Wednesday’s meeting is expected to deliver the first 50 basis-point rate hike in twenty years, and at least the following two meetings are expected to deliver additional half-percent rate moves, which would be the first time the Fed has done more than one move of this magnitude at consecutive meetings since 1994. This year is priced for the Fed to end with a policy rate of 2.75-3.00%. The Fed will also guide on its intention to shrink its balance sheet, perhaps at a pace near $100 billion per month. So far, the US economy has shown few signs of slowing dramatically, despite multi-decade highs in inflation, as private balance sheets are in very good shape after pandemic-relative stimulus kept incomes high. A booming and extremely tight labor market is seeing workers able to bid up wages. We will get a look at both the ISM Manufacturing (today) and ISM Services surveys (Wed.) ahead of the FOMC meeting late Wednesday. Both surveys are expected in the high 50’s, indicating a robust pace of expansion, and the preliminary S&P Global PMI surveys for the US were quite strong, at 59.7 for Manufacturing and 54.7 for Services.
We could see a short-term rally in beaten down stocks; With financial conditions tightening ahead of the Fed’s interest rate decision on Wednesday, the Fed could be more dovish. Since the Fed’s last meeting, the 10-year yield topped 3% for the first time since 2018 (today), the US dollar rallied 5%, The S&P500 has fallen 8.74%, and hedge fund exposures fell to a 1.5 year low. So, the Fed may be a little more dovish than expected, and we could see a short-term rally in tech and cyclical stocks that have been hit the hardest. Keep in mind though, the longer-term picture is still very bearish, medium and longer-term, as the Fed is taking out $1 trillion a year out of the system and the economy is expected to slow.
Earnings Watch. Several key earnings today with AMD being an interesting company to watch given its recent success taking market share against Intel and building momentum in its enterprise segment. Airbnb is worth watching because of its exposure to cross-border travelling which we know from recent Mastercard and Visa earnings are showing a strong comeback. Starbucks and Estee Lauder are both exposed to the global consumer and are both experiencing strong input cost pressures, so the key focus here is to what extent they can pass on costs.
Economic calendar highlights for today (times GMT)
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Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
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