Quarterly Outlook
Macro Outlook: The US rate cut cycle has begun
Peter Garnry
Chief Investment Strategist
Summary: Another rocky session for US equities yesterday as early gains could not be sustained and the market closed slightly better than unchanged before edging higher in the Asian session, where the mood in Japan remains ebullient and the Nikkei 225 touched a new 31-year high at one point. Today the focus shifts to the economic calendar as the US reports its August CPI reading after the core inflation reading jumped to a nearly 30-year high in June before fading slightly last month.
What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) - US equity futures continue to be offered with Nasdaq 100 futures trading around 15,443 in early European trading hovering around the key intraday support levels from the previous two trading sessions. If US equities take a leg lower today on potentially a negative surprise on the August CPI number, then the 15,266 level in Nasdaq 100 is the next support level.
EURUSD – the EURUSD found support just ahead of the important 61.8% retracement at 1.1758 yesterday and rallied back clear of 1.1800, a modest hook for bulls hoping that we have put in a tactical bottom, though we’ll have to have a look at the US CPI data today and see whether this triggers any adjustment to the forward expectations for the Fed and/or spooks risk sentiment. Of late, US rate expectations have coiled unconvincingly in a range as the market figures the Fed will roll out a taper of asset purchases in coming months and have a look at a few months more data on employment before significantly adjusting its rate guidance.
AUDUSD – the Aussie edged lower in most crosses on a fresh brushback from RBA Governor Lowe, who indicated disapproval of market bets that the RBA would eventually move to hike rates before its anticipated time frame, explicitly expressing that “I find it difficult to understand why rate rises are being priced in next year or early 2023.” The RBA wants to be sure that rising wages are a prominent feature of the recovery before updating guidance. AUD shorts are quite crowded according to US futures positioning data, while the focus in the chart is on whether AUDUSD has turned the corner back higher, with the strong rebound off the 0.7106 low. The 0.7336 level was near the low yesterday and is the 38.2% retracement, and the last important support is the 61.8% retracement at 0.7248.
Bitcoin (BITCOIN_XBTE:xome) and Ethereum (ETHEREUM_XBTE:xome) – cryptocurrencies are hanging in there after a dip to new local lows yesterday, with the price action bottled up nearly the daily closes of the last few days – just above 45k in Bitcoin and near 3,300 in Ethereum.
Gold (XAUUSD) trades steady within a $1780 to $1800 range ahead of today’s CPI data which may help determine the speed of future tapering. The FOMC meets next week with the market expecting an announcement that they will begin to reduce bond buying from December. Last week, the PPI rose to a fresh series high as persistent chain disruptions pushed costs higher. Silver and platinum meanwhile continue to underperform with gold in need of an upside break for that to change.
Crude Oil (OILUSOCT21 & OILUKNOV21) trades higher for a third day as extreme weather in the US continues to curtail supply while demand continues to recover. Having only managed to restart 56% of Gulf of Mexico production after Hurricane Ida more than two weeks ago, the oil market anxiously waits to see the impact of Nicholas which has strengthened into a hurricane before reaching the Texas coast sometime today. Ahead of today’s Monthly Oil Market Report from the IEA, OPEC yesterday raised its forecast for global demand for this year and next. Having broken above $73.7/b, Brent could now be challenging the July 29 high at $76.15/b next.
The squeeze in uranium continues with the Reddit army having joined a rally that after slowing over the summer received fresh momentum during the past month, amid buying frenzy by the Sprott Physical Uranium Trust (U_UN:xtse). During the past month it has accumulated millions of pounds of the physical commodity used to power nuclear reactors, and it has driven uranium stocks to their highest levels in a decade. While the Sprott Trust has rallied 82% this past month, Cameco Corp (CCO:xtse), one of the world's largest producers of uranium is up by 55%. The timing of the squeeze could not be better given the current turmoil in the global gas, coal, power and emissions markets, raising the need for more reliable alternative energy solutions than wind and sun.
US Treasuries might be vulnerable to inflation readings today if they exceed expectations (TLT:xnas, IEF:xnas). Treasury yields continue to trade rangebound as investors continue to stick to the Fed’s view that inflation is transitory. However, that could change if CPI readings exceed expectations today. If inflation looks to be more permanent than the Fed believes, a selloff in the bond market could ensue. Yet, we do not expect 10-year yields to rise more than their monthly standard deviation, around 5bps. Indeed, US Treasuries benefit from strong foreign investors’ demand. Thus, Fed’s commitment to more aggressive monetary policies might be needed for 10-year yields to breach over 1.5%.
We expect European bond yields to trade rangebound until the German election or US yields resume their rise (VGEA:xetr, IS0L:xetr, BTP10:xmil). Last week’s ECB’s dovish taper was enough to remove bearish sentiment within the European sovereign space. Yet, things can turn as soon as the German elections or US yields begin to rise. In the short term, we expect high beta sovereign bonds such as Italy and Greece to benefit from last week ECB meeting and solid demand to welcome heavy bond supply. Italy today is selling 3-, 7- and 30-year BTPS through auctions.
What is going on?
French presidential election: there are now 36 declared candidates. Socialist Paris Mayor Anne Hidalgo announced she would run for president. Polls indicate she has little chance of reshaping the dynamics of the race. She is polling at about 8%, far behind President Emmanuel Macron and the far right leader Marine Le Pen. She promises an exit strategy out of nuclear power and to double teachers’ salaries. The actual cost of this last measure would be around €35- €40bn per year, according to our estimates. This is unrealistic. The first round of the Green party primaries will happen on 16-19 September. More than 120,000 people have registered to vote in the primaries against 17,000 for the 2016 primaries. Certainly, more candidates will announce they run for president in the coming months. But between eight and ten candidates should finally be able to be listed on election day (see our latest update on the French presidential election).
China property developer Evergrande’s crisis sees widening fallout. Homebuyers, investors and Evergrande employees are up in arms as the company’s troubles have impacted both construction and wealth management products. Homebuyers are demanding that construction continue while the company’s own employees at one office protested on losses after buying their company’s wealth management products. Evergrande bonds have rallied slightly in recent days but are still priced for a restructuring (trading around 30 cents on the dollar for USD bonds). It shares in Hong Kong were down 11% in today’s session.
Norway election. As expected, the center-of-left parties emerged victorious after yesterday’s election in Norway, with a clear path to the formation of a government as three of the larger parties on the center and center left expected to form a coalition winning a 5-seat majority and making it unnecessary to recruit the support of the Red and Green parties more extreme demands, especially on climate, in the latter’s case. The Norwegian krone traded slightly weaker after having strengthened to a new two-month highs versus the euro earlier in the day on the news.
Oracle FY22 Q1 earnings. The database giant Oracle disappointed investors last night after the market close, as its FY22 Q1 earnings release showed revenue of $9.73bn vs est. $9.77bn and EPS of $1.03 vs est. $0.97. Investors were disappointed over the outlook for revenue growth in the current quarter set at 3-5%.
What are we watching next?
Risk sentiment for US equities into this Friday’s options expiry – just a short reminder again that the last four months in a row have seen significant volatility in US equities in the days ahead of, and in some cases on, the third Friday of the month, which for this month is this Friday. The volatility is likely linked to options expiry for large options positions on the S&P 500 stocks.
US August CPI today – there are four numbers to watch in today’s US CPI release – the headline CPI and “ex food and energy”, or core CPI, for both month-on-month and year-on-year rises. Traders should focus most of their attention on the month-on-month releases. The pickup in core US CPI data in April through June was the most remarkable acceleration in core inflation in decades, but even with the year-on-year core CPI rate very high in July at 4.3%, the “team transitory” observers who believe that inflation will calm again were relieved to see the month-on-month core US CPI print for July plunging to 0.33% after averaging near a stunning 0.8% in Apr-Jun. The August expectations are for core CPI readings of 0.3% month-on-month and 4.2% year-on-year.
Food for thought - Global food supplies will struggle to keep pace with a growing population as climate change sends temperatures soaring and as droughts intensify, a Chatham House report showed via Bloomberg. Crop yields may decline by almost a third by 2050 unless emissions are drastically reduced, while farmers will need to grow nearly 50% more food to meet global demand.
Earnings to watch this week. Next earnings release to watch is Inditex tomorrow that is battling with closed stores due to the pandemic and a relatively weaker e-commerce business than its competitors.
Economic calendar highlights for today (times GMT)
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