Summary: US equity markets are pushing on all-time highs after another positive session on Friday, with sentiment remaining positive despite an uptick in US yields. A G7 meeting produced a lengthy communique promising significant spending initiatives that US President Biden positioned as competing with Chinese influence. The key event risk towering above all others this week is the FOMC meeting this Wednesday and how seriously the Fed is taking recent inflation data as it produces its latest batch of economic and policy forecasts.
What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) – the decline in the US 10-year yield last week kickstarted a sentiment shift for technology stocks and caused the transitory inflation narrative to gain strength forcing down the VIX Index closing the week below 16. This morning Nasdaq 100 futures are trading above the 14,000 level and with an all-time high on the close in sight today or tomorrow. The move in US equities shows that equities are sensitive to inflation and interest rates narratives and thus traders should be prepared for much higher volatility over the next six months as we get more inflation data.
Bitcoin (BITCOIN_XBTE:xome) and Ethereum (ETHEREUM_XBTE:xome). Bitcoin rose sharply yesterday, with the price action poking at the 40k level this morning, and the 42k area marking the key range resistance. Once news item garnering considerable attention was Elon Musk announcing that Tesla will resume accepting payment in Bitcoin once Bitcoin miners source 50% of their electricity from green sources. Price action in Ethereum, was more lackluster, as it trades below mid-range around 2,500.
EURUSD – the US dollar surged to close the week, perhaps as USD bears who have been unable to find any notable momentum pared back positions ahead of the Wednesday FOMC meeting, fearing that the Fed is set to deliver more balance language on its policy intentions and possibly bring forward an eventual asset purchase taper (more below in the FOMC preview in What are we watching next?). In any case, EURUSD has traded just below recent range support at 1.2104 (just below 1.2100), and the 1.2000 level has been pivotal several times since February and could be so this week as well in anticipation of, and in reaction to the FOMC meeting.
USDTRY – the Turkish lira strengthened sharply last week after USDTRY has burst well above the key 8.50 area, in part on Turkish president Erdogan indicating a desire for the central bank (whose leadership he recently changed) to cut rates. A Turkish central bank meeting is up on Thursday and US President Biden will meet today, with both sides hopeful for improving relations. The most recent inflation data shows inflation running well below the Turkish policy rate of 19%, but will the market accept guidance for eventual rate cuts?
Gold (XAUUSD) continued lower in Asia with as US real yields and especially the dollar trading higher as the market focus on transient inflation while speculating that the FOMC may strike a more balanced tone at its meeting on Wednesday. Silver (XAGUSD) meanwhile trades near a one-month high against gold after attracting some tailwind from recovering industrial metals. The weekly COT update covering the week to June 8 saw funds sell gold for the first time in six weeks following the loss of momentum. Support at $1856 followed by the 200-day MA at $1840.
Crude oil (OILUKAUG21 & OILUSJUL21) trades higher led by the WTI which has reached a fresh 32-month high. Driven by buyers switching exposure from metals and agriculture (see below) in the belief rising global demand, forecast by the IEA to reach pre-pandemic levels late next year, and gradual supply increases by OPEC+ will keep the market sufficiently tight to support higher prices. As a result, speculators have increased their combined WTI and Brent long to a five-week high with inflows skewed towards WTI where the net long reached a near three-year high. Brent’s next upside target is $75.6 followed by $78, the downtrend from the 2008 high.
There is still some short-term upside for US Treasuries if Federal Reserve keep dovish at Wednesday’s FOMC meeting (IEF, TLT). Although last week’s drop in US Treasury yields has been considerable, they may drop even further if the Fed keeps its dovish stance and sticks to the AIT framework at the upcoming FOMC meeting. If yields break below 1.40%, they will find support next at 1.20%. Be careful though, in the long-term yields will need to rise as the Federal Reserve start discussing tapering in summer.
What is going on?
G7 agree to a “build back better for the world” initiative to rival China’s influence, promising billions of dollars for developing countries to address climate change, with US President Joe Biden positioning the effort as a democratic alternative to China’s Belt and Road-linked lending, while other G7 leaders wanted to tone down the confrontational rhetoric with China. UK Prime Minister Boris Johnson, for example, said he wanted the G7 to “show what we are for, not who we are against”. The full communique runs some 25 pages.
Russia: the Russian Central Bank hiked rates, guides for more. Putin and Biden summit on Wednesday. The Russian central bank hiked the policy rate 50 basis points to 5.50%, a move that had become the consensus expectation ahead of the meeting. The bank guided for further rate increases to counter inflationary pressures. USDRUB ended the day slightly higher as the USD firmed broadly. On Wednesday, US President Joe Biden and Russian President Vladimir Putin will meet, with Biden declaring that his goal is to ensure that Russia-US relations “don’t get worse”.
Moderna does not find link between vaccine and heart issues. A rare heart inflammation disease called myocarditis has seen a higher rate than normal following the mass vaccination against Covid-19, but Moderna says it cannot find any link between the two.
Speculators switching exposure from metals and agriculture to energy: The latest Commitments of Traders report covering the week to June 8 saw a second week of net buying being almost solely driven by the energy sector while net selling hitting both metals, both precious and industrial as well as agriculture. Overall, the combined long across 24 major commodity futures rose 2% to 2.42 million lots but since hitting a record high in the week to May 11 at 2.53 million lots, the energy sectors percentage of the total long has risen from 44% to 49%, metals have stayed unchanged at just 9% while the agriculture sector has gone from 47% to 42%.
What are we watching next?
FOMC this week and how the Fed forecasts move after recent hot inflation/employment data - The prior set of forecasts in March showed that the Fed expecting a mild inflationary surge this year of 2.4% in the core PCE inflation followed by a drop back towards the 2.0% level for 2022 and the longer run. April core PCE inflation rose to 3.1% YoY, with the May number not yet available, while the May CPI ex-food-and-energy, was out at 3.8%. Unemployment was forecast in March to drop back to the pre-pandemic level of 3.5% by the end of 2023 and, while a few more Fed members pulled forward the anticipated timing of raising rates, the median forecast remained for lift-off in 2024. Any new language on the eventual tapering of asset purchases will be monitored closely.
Earnings reports this week. Earnings not following the standard quarterly calendar are still being released, but we are down to only five releases this week with the most important being Oracle, Lennar, and Adobe. The US housing market is red hot and thus any comments from Lennar on whether the market is rolling over or continuing at full speed will be interesting to watch. Adobe is part of the SaaS business model cluster within the software industry and is expected to report strong growth figures, but valuation remains stretched so we expect the risk-reward ratio over the earnings release to be tilted to the downside.
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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