Macro: Sandcastle economics
Invest wisely in Q3 2024: Discover SaxoStrats' insights on navigating a stable yet fragile global economy.
Summary: US equities posted a strong cash session, only to stumble badly after hours on weak outlooks from Facebook parent Meta Platforms and Spotify on their respective earnings calls. Today, all eyes turn toward the Bank of England and especially the ECB. The BoE is expected to hike rates again, while investors are in the dark on whether the ECB will finally climb down from its dovish insistence that inflation will likely prove transitory after hot inflation reports in January. Crude oil meanwhile is losing momentum despite a very bullish backdrop.
What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) - Nasdaq 100 futures lived a short life above the 200-day moving average with the index futures pushing below this morning following disappointing earnings from Meta. The VIX Index is back above 22 and short-term traders are likely taking profit on those rebound gains over the past week. Overall, the underlying dynamics are unchanged in the market with downside risks persisting driven by inflation and tightening of financial conditions. The next support levels are at 14,666 and 14,483 in the Nasdaq 100.
EURUSD - ECB rate expectations jumped aggressively early this week on a very hot German CPI number for January, as the market has begun pricing the risk of an ECB rate hike before year end. This suggests that the market is looking for ECB President Lagarde to hint that it may consider a more aggressive tapering of asset purchases after March or even opening up guidance, however cautiously for the potential for hiking rates. EURUSD has backed up sharply together with the perceive rise in the potential for the ECB to shift, so the ECB will have to deliver something, it seems, merely for EURUSD to stay in the 1.1300. A rally above the 1.1300-50 zone would begin to suggest that the pair is trying to put in a bottom, while a resoundingly dovish ECB and new risk aversion could see a resumption of the downside pressure after new lows for the cycle were posted just last week before this latest rally.
GBPUSD and EURGBP – As Fed rate hike expectations have reversed some of their surge in the wake of last week’s FOMC meeting over the last few sessions, Bank of England expectations for policy tightening over the next several quarters have been rising sharply, helping GBPUSD back above 1.3500 and cutting the January sell-off from the 1.3750-area top to sub-1.3400 lows approximately in half. BoE Governor Andrew Bailey has surprised on both the dovish side in November and then the hawkish side at the December meeting, so the risk of a surprise in guidance (a 25 basis point hike is universally expected), given the hawkish expectations tilt, is perhaps to the dovish side in momentum terms heading into this meeting. If Bailey and company confirm the hawkish tilt and ECB persists in its wait-and-see stance, EURGBP bears watching as it is heavy near the cycle lows just above 0.8300. More in BoE and ECB previews below.
Crude oil (OILUSMAR22 & OILUKAPR22) running out of gas? Brent and WTI trade lower following a day that generally delivered price supportive news. OPEC+ agreed to proceed with another 400k b/d increase but after one of its shortest meetings in history, it failed to address the growing gap between quotas and what is being produced. Potentially a sign the group does not share the current market view where the futures curves are pricing in some rather extreme tightness. The EIA meanwhile delivered an on-paper bullish inventory report with crude oil production and stocks falling, the latter despite increased imports and another big injection from SPR. These developments pointing to a market running out of energy, supported by a recent 150k drop in Brent crude’s open interest. A break below $86.8 may signal a correction to $83.1.
Gold (XAUUSD) trades back above $1800 supported by a weaker dollar ahead of today’s ECB meeting (see above and below), renewed stock market volatility and geopolitical tensions. Also, several FOMC members have pushed back on the idea the FOMC should kick off the hike cycle with a 50 basis-point increase. Demand for bullion-backed ETFs continues to rise with total holdings hitting a fresh four-month high. Resistance at $1810 ahead of $1817, the 50% retracement of the FOMC related slump.
US Treasuries (IEF, TLT). After last week’s FOMC meeting, more bear-flattening of the yield curve is to be expected. The Federal Reserve is looking to use interest rate hikes as the primary tool to tighten the economy. It means that the front part of the yield curve will continue to rise as the Fed’s becomes more aggressive while long-term rates will remain compressed due to growth fears. The yield curve is close to inverting between seven and ten years. The market’s focus is on tomorrow’s nonfarm payrolls, which seem likely to surprise on the downside. Regardless, we believe strong average hourly earnings and an unemployment rate in line with expectations will be enough to pave the way for a rate hike in March.
European sovereigns (VGEA). Interest rate hikes expectations continue to advance in the euro area as money markets are now pricing 10bps of ECB tightening already in July. To reinforce the message, German 2-year yields broke above the ECB deposit rate for the first time since 2015. This might be the week negative 10-year Bund yields will become a memory, as a hawkish Fed together with an aggressive BOE will inevitably sustain European sovereign yields above this level. Yet, the market might be ahead of itself as rising yields are already tightening the euro bloc, and the central bank is unlikely to want to add further pressure as it prepares to end the PEPP program in March. However, Lagarde has the difficult task to deliver a balanced message to a market that is very much looking for a hawkish tilt.
Italian BTPS (BTP10). Sergio Mattarella has been elected president of the republic for a second mandate, leading to a political status quo which appeals investors. However, BTPS might have quickly forgotten the positive news as Italian sovereign yields resumed their rise amid expectations of an aggressive ECB meeting today. As volatility remains sustained in rates, we can expect the BTP-Bund spread to resume its widening.
Gilts (IGLT). The focus is going to be on the Gilt-Bund spread, which yesterday tightened considering market expectations of an aggressive ECB today, but it might resume its widening if Lagarde disappoints. The widening of the Gilt-Bund spread will reflect the divergence between the ECB and the BOE, weighting on the euro currency.
What is going on?
The UN FAO will publish its January World Food Price Index today and after seeing the Bloomberg Agriculture Subindex rise by 5.8 percent last month, the index which tracks a basket of 95 food items split into five categories may exceed the record 137.62 print from February 2011, when surging food price inflation helped trigger the Arab Spring uprising. The strong gains so far this year have primarily been led by surging cost of edible oils such as palm and soybean oil due to rising demand for plant-based fuels supported by the rally in fossil fuels. Other strong gainers so far this year has been cotton (not in the UNFAO basket), rice and coffee.
Meta disappoints on Q1 outlook. Facebook’s parent company delivered Q4 revenue in line with estimates but missed EPS with $3.67 vs est. $3.84. But the disappointment came from the Q1 Outlook with Meta guidance revenue of $27-29bn vs est. $30.3bn citing pricing pressure as current ads prices are pressuring budgets at companies, but the company is also saying they see increased competition which is especially coming from TikTok. Meta has also started splitting out its two segments Family of Apps and Reality Labs with the latter delivering an operating loss of $3.3bn. Shares were down 18% in extended trading.
Infineon Technologies is raising its margin guidance. The world’s largest chipmaker to the car industry is announcing Q1 operating margin of 22.7% vs est. 20.4% highlighting the current pricing power in the semiconductor industry. The company is raising their full-year operating margin guidance to 22% from previously 21%.
Brazil’s Central Bank hikes another 150 basis points to 10.75%, but signals rate hike cycle may end soon. The bank had hiked rates from a low of 2% in 2020 to now 10.75%, but signaled after this third consecutive hike that the pace of future policy tightening would slow. Brazil’s inflation had risen to above 35%, but as of last month had fallen to below 18% as the currency has largely stabilized since late last year and even rallied significantly since the beginning of this year. The guidance saw little reaction in the real late yesterday.
US Jan. ADP private payrolls contracted sharply – this monthly measure of private payrolls was supposedly expected to show modest payrolls growth of around +180k, but instead saw a contraction of –301k for the month, most likely on omicron variant impacts. Given that both the White House and a regional Fed president have warned of a weak January jobs report, as covid-related absences may be tallied as lost jobs, the market seemed mostly willing to write off this development.
What are we watching next?
ECB meeting today – after eurozone-wide inflation surged to a record in the EMU era in January according to the official CPI print yesterday, the ECB meeting today looks particularly tense, with the market pricing that the ECB is going to have to shift its messaging on how it views inflation risks and the policy implications of that shift – whether through a more aggressive tapering of asset purchases after the pandemic emergency purchases end in March, or by throwing open the possibility that policy rate rises may be in play for this calendar year. Given the sharp shift in expectations this week, the ECB doubling down on its existing wait-and-see guidance is perhaps the surprise scenario.
BoE meeting - the market has leaned more hawkish in recent days ahead of today’s meeting, with sterling well bid, suggesting that Governor Bailey and company will need to commit to rather hawkish guidance to maintain current expectations for further tightening, with the market looking for more than 125 basis points of tightening through the December meeting this year and, as well, fairly robust messaging around eventual quantitative tightening plans. The “surprise side”, given the recent momentum shift, is to the less hawkish side.
Hearings for three Fed nominees for the Board of Governors today – these include Lisa Cook and Philip Jefferson, two economists thought to hold dovish views on policy and Sarah Bloom Raskin, who is nominated for the role of Vice Chair of supervision at the Fed. The US Chamber of commerce recently sent an article to the Senate warning of Raskin’s views on oil and gas as she has called for cutting off access to support for the oil and gas industry from the federal governments. This was an unprecedented move. Will Senate Republicans or maybe even centrist Democrats put up a fight?
Weak January US jobs report set for tomorrow: expectations for this Friday’s jobs report are shifting south in a hurry as indicated above in the ADP private payrolls result for January, which saw the supposed loss of –300k jobs. But the market may be willing to look through this as the assumption is that, once the omicron-covid variant disruptions lift, normal activity level will resume and disruptions will clear. One interesting thing to watch is whether average hourly earnings see a particularly large surge for January if the bulk of the job losses tallied were for lower-paid positions.
Earnings Watch. Another big earnings day with European earnings dominating the session. Tonight, after the US market close, Amazon will report Q4 earnings which is the key earnings watch today being a top 5 company in the world and a bellwether of US retailing.
Economic calendar highlights for today (times GMT)