Macro: Sandcastle economics
Invest wisely in Q3 2024: Discover SaxoStrats' insights on navigating a stable yet fragile global economy.
Summary: Risk sentiment took a steep dive yesterday, with US equities losing two percent in a downbeat session in the wake of the weakest reading for the expectations component of the US Consumer Confidence survey since 2013. US treasuries found a safe haven bid, driving yields sharply back lower, and the US dollar and the Swiss played their role as safe haven currencies, while the JPY snapped back from its recent weakness on the dip in yields.
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I)
US equities took a sizeable hit yesterday on the back of weaker than expected consumer confidence and expectations figures for June with the S&P 500 futures down 2.1% and Nasdaq 100 futures were down 3.3%. The stark turnaround shows the difficulties in trading this market. The 3,800 level is the next level to watch on the downside in S&P 500 futures and if they hold above this level then this will be a stabilizing factor for US equities, also the US 10-year yield is coming down in today’s session.
Hong Kong’s Hang Seng (HSI.I) and China’s CSI300 (000300.I) trade lower
CSI300 was down nearly 1% after briefly rising to a new high (since early March) above 4500. Hang Seng Index (HSI.I) and Hang Seng TECH Index (HSTECH.I) declined 1.8% and 3.3% respectively. Travel agent, airline, catering and casino stocks which registered high single-digit to double digit gains yesterday following China’s announcement to shorten its mandatory quarantine period to 10 days (down from 21 days) for inbound travellers, gave back some of those gains this morning. Auto makers were sold amid profit-taking as well as a negative report alleging accounting irregularities of NIO (NIO.US/NIO.SP/9866). NIO’s shares were 7.7% lower in Hong Kong’s morning session. Other auto makers were also down 3% to 8%.
EURUSD and USD pairs
Weak risk sentiment yesterday saw the US dollar gaining sharply across the board, with EURUSD shying well away from the 1.0600 resistance area that was teased on multiple occasions over the last several sessions and trading back towards the pivotal 1.0500 area within the range to the 1.0350 cycle low, one that sits just above the lows since the early 2000’s (the 1.0341 level from 2017). Animal spirits seem to be in the driver’s seat as quarter-end approaches, and it is notable that the USD advance required no assistance from US treasury yields, which dipped yesterday on apparent safe haven seeking into treasuries. Also watching a key pair like AUDUSD, which is triangulating within a zone and near a downside break just below 0.6900, with the range low for the cycle into 0.6829.
EURCHF
EURCHF is dipping toward parity, which briefly traded in the wake of the Russian invasion of Ukraine. The surprise 50-basis point rate hike from the Swiss National Bank at its meeting this month has boosted the franc sharply versus the single currency as the latter is weak on the ECB’s slow start to the tightening cycle and as it grapples with supporting peripheral bond markets with balance sheet adjustments, which will make any real quantitative tightening a difficult task. A big dip in the weekly sight deposit data this week from the SNB (when this grows, it shows the SNB is intervening) suggests the central bank is not concerned about the CHF strength, but it will be interesting to watch the price action if the pair falls through parity.
Crude oil (OILUKAUG22 & OILUSAUG22)
Crude oil trades softer in response to renewed stock market weakness driven by investor doubts about the Fed’s ability to bring down inflation without hurting the economy. However, continued worries about supply disruptions from Libya to Ecuador ahead of Thursday’s OPEC+ meeting is likely to put a floor under the market. OPEC+ members produced 2.7m b/d less than their target in May with the total deficit since May 2020 reaching 562 million barrels. The API last night reported a 4m barrel draw in crude stocks while gasoline and distillates both rose. The EIA will publish two weeks of inventory data today following last week's delay. American’s planning on taking a holiday by car in the next six months has dropped to the lowest seasonal level in four years, a sign high gasoline prices may start to negatively impact demand.
US Treasuries (TLT, IEF)
US Treasury yields fell sharply yesterday and followed through overnight after the highs in yesterday’s session for the 10-year Treasury yield benchmark reached toward 3.25%, the highest in four days. Treasuries seem to have found a safe-haven bid for the moment, something that is familiar from markets past, but not associated with this cycle, in which in most cases, a rise in treasury yields has served as a driver of negative risk sentiment. The technical situation picks up energy if the 10-year yield follow through last week’s low of 3.00%, which could shift the focus back toward the 2.75% area and suggest that market concern for an incoming recession is gathering pace.
What is going on?
Cotton (CTZ2) stabilizing following major rout
Cotton, a recession-sensitive contract, took a major hit last week from raised concerns about an economic slowdown, primarily in China, a major consumer of cotton, but also the wider world. The fiber together with copper are often viewed as gauges for the health of the Chinese and global economy, and recently both have been flashing red alert. However, after hitting a nine-month low, some 32% below the May peak, the market is showing signs of stabilizing. Driven by a combination of prices hitting deeply oversold levels, the speculative froth being sharply reduced, China softening its strict Covid rules and not least a worsening outlook for US crops after the percentage of crops being rated good to excellent dropped to just 37% versus 52% a year ago.
U.S. consumer confidence slide reinforces stagflation risks
US Conference Board Consumer Confidence Index continued to deteriorate, and fell to 98.7 in June from May’s 103.2, below expectations and reaching its lowest level since February 2021. While indicating that stagflation risks continue to run high, it is probably a signal to the Fed given that this survey particularly focuses on the labor market. The Expectations Index (consumers' short-term outlook for income, business & labour market conditions dropped significantly to 66.4 (Jun) from 73.7 (May), its lowest level since March 2013.
Fed speakers sing the same song
Several Fed speakers were on the wires yesterday. Williams hinted at a debate for the July meeting between a rate hike of 50bps or 75bps. He expects GDP growth of between 1.0-1.5% this year, beneath the FOMC’s median projection of 1.7%, and said that a recession was not his base case. Williams is a voter, but that also seems to be the base view from the =Fed for now. Fed’s Daly also said something similar, ruling out a possible recession but expecting unemployment to rise slightly. Fed Chair Powell will be speaking at the ECB summit on Wednesday, but we doubt he will add any new information, and is likely to confirm the fight against inflation and discount recession risks.
H&M Q2 pre-tax profit beats expectations. The Swedish fashion retailer delivers pre-tax income of SEK 4.8bn vs est. SEK 4bn and is guiding for more store closures than estimated. The company is also announcing SEK 3bn buyback of its own shares.
What are we watching next?
Copper-gold ratio calling for lower yields
The copper-gold ratio has historically had a relatively high correlation with the yield on US Treasury notes. With copper being a leading indicator of global economic health and gold being the leading indicator of fear, ie economic and geopolitical distress, a rising number – copper outperforming -tends to support higher bond yields. Last year the ratio rallied strongly, thereby sending a signal that yields had to move higher. That finally happened and during the past few months yields have surged beyond levels justified by the ratio which in the meantime has slumped on emerging signs of an economic slowdown, thereby calling for a top in US long end yields.
ECB not gaining much credibility as it is set for tightening and “anti-fragmentation”
ECB President Lagarde reiterated ECB's current stance on the continuation of its policy normalization path & will go as far as necessary to bring Euro Area inflation back to the 2% target in her speech at the ECB Forum on Central Banking yesterday. She hinted again at a 25bps rate hike in July and gave no proper insight into the anti-fragmentation tool. German inflation is due today, expected to rise to 8.0% y/y for June from 7.9% y/y previously but if gains are any stronger than that, we may see the markets tilting more towards pricing a 50bps rate hike from the ECB in July.
Geopolitical tensions surge
Geopolitical tensions continued to reign as G7 oil price cap proposal to cut off Russia’s revenues gained traction. G7 has agreed to explore a ban on transporting Russian oil that has been sold above a certain price and the cap may extend to Russia's gas exports as well. There is a risk such measures could backfire as Russia could reduce energy exports in retaliation which in turn could led to an upward spiral in prices.
Quarter-end on Thursday and portfolio rebalancing flows. After a terrible quarter-to-date for global equities (the first quarter ended on a high note), rebalancing flows may buoy equities into quarter end on Thursday. There is also talk of an enormous option structure (a put spread on the S&P 500) held by JP Morgan with a key strike price in the structure at 3,620 that expires on Thursday, one that some believe has helped to hold up the market as that level approached.
Earnings Watch. The next important earnings release to watch is General Mills today which is expected to deliver FY22 Q4 (ending 31 May) revenue growth of 6% y/y and 2%-point increase in the operating margin compared to the previous quarter. General Mills is a large US consumer foods business and can thus provide insights into the cost pressures across food and logistics.
Economic calendar highlights for today (times GMT)
0700 – Spain Flash Jun. CPI
0800 – ECB's Guindos to speak
0900 – Eurozone Jun. Confidence Surveys
1000 – ECB's Schnabel to speak
1100 – US Weekly Mortgage Applications
1200 – Germany Flash Jun. CPI
1300 – Central Banks speakers at ECB Conference: Fed Chair Powell, BoE Governor Bailey, ECB President Lagarde
1430 – EIA's Weekly Crude and Fuel Stock Report for weeks ending June 17 and 24
1500 – ECB President Lagarde to speak
1530 – US Fed’s Mester (voter) to speak
1705 – US Fed’s Bullard (voter) to speak
2350 – Japan May Industrial Production
0100 – New Zealand Jun. ANZ Business Survey
0130 – China Jun. Manufacturing and Non-manufacturing PMI
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