Market Quick Take - November 4, 2021
Saxo Strategy Team
Summary: The Fed will initiate a tapering of asset purchases later this month at the expected pace of $15B per month, but with flexibility on the pace of reductions in the forward guidance. The market took the news in stride as yields were little changed relative to recent ranges, while equity markets took the lack of more urgency, perhaps as well as a huge correction in crude oil prices, as a green light to rally to new record highs.
What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) - US equities liked the FOMC’s message last night catapulting Nasdaq 100 futures to an all-time high on the close extending this morning in early European trading. The VIX fell to 15 suggesting a market that is willing to push on the current momentum to even higher levels. Russell 2000 (US small caps) broke out of its long resistance level which at face value looks impressive, but on a relative basis against large cap stocks, small cap stocks are still suffering this year. Our stance remains that in an inflationary environment, investors should be underweight small caps as they are hit harder from rising input costs.
EURUSD – the EURUSD supermajor is stuck in the range as we await a move below 1.1525 or above 1.1700 for next steps, with the ECB’s Lagarde doing all she can to discourage the notion that the ECB will hike rates next year, while a significant boost to the US dollar would likely require that longer US yields break relatively higher and/or that the Fed will have to step up the pace of tightening on strong US data.
GBPUSD and EURGBP – will be the focus today over the Bank of England meeting (previewed below) where the market is divided on the prospects for a 15-basis point hike at today’s meeting and more importantly, whether the Bank approves of the market’s pricing of a series of rate hikes next year. There may be considerable energy in today’s reaction as the communication from the Bank’s various members has been confusing, to stay the least. GBPUSD is in a declining channel with a local pivot near 1.3600 encouraging the view toward the sub-1.3500 lows, while the pair would need to rally north of 1.3800-50 to break the chart formation to the upside, something that would likely require a weaker US dollar. EURGBP is sandwiched between the recent 0.8500+ highs and the cycle low just above 0.8400.
Crude oil trades lower after losing 4 percent on Wednesday. The weekly EIA report showed crude oil inventories and production both rising, the latter to pre-hurricane Ida levels around 11.5m barrels per day. In addition, talks on reviving the 2015 Iran nuclear deal will resume on Nov 29, the FOMC confirmed its long-awaited plan to begin tapering asset purchases from mid-November, and finally, the market is once again forced to focus on covid-related demand disruptions, especially in China, the world's biggest importer. Another volatile day awaits with investors now turning their focus to today’s OPEC+ meeting where the alliance, despite pressure from the US, is expected to stick to its planned 400,000 barrels per day production increase for December.
Gold (XAUUSD) is once again in repair mode following a pre-FOMC slump to a three-week low driven by strong US jobs data. The FOMC signaled it will be patient with regards to raising interest rates as Powell indirectly signaled, they had no clue about inflation. With the primary focus on a tight labour market investors will remain nervous and the risk is the market will continue to bring forward rate hike expectations, and this focus may keep the appetite for gold subdued. A selloff in Chinese property sector stocks and bonds potentially receiving some haven attention, but overall, the market will continue to focus on the direction of real yields and the dollar.
US treasuries (TLT, IEF, SHY). The yield curve remained mostly unchanged after yesterday’s FOMC as Powell clearly communicated that inflation remains subordinated to jobs. Breakeven rates rose shortly after the release of the FOMC statement; however, they fell back once Powell clarified that tapering could be more or less aggressive depending on economic conditions. The Fed meeting puts all the heat on future nonfarm payrolls. We expect interest rate hikes to continue to advance, as the unemployment rate falls to 2019 levels. Thus, upward pressure might continue to be applied on the front part of the yield curve while long-term yields will need also to rise, but at a slower pace.
UK Gilts (IGLT). The market expects the BOE to deliver 15bps interest rate hike today. However, what bond investors should care about is whether today’s hike sets the beginning of an aggressive hiking cycle. Currently, the market is pricing a much more aggressive interest rate hike cycle in the UK rather than in US. Additionally, the Gilt yield curve is close to inversion with the spread between 30-year and 10-year Gilts trading at 11bps. It may be a sign that the market is ahead of itself, and if MPC members are not unanimously voting for today’s interest rate hike, the hiking cycle might not be as aggressive as the market expects.
What is going on?
Fed announces QE taper to start this month – with a $15B reduction of purchases to start later this month and a further reduction of $15B per month, which would indicate a wind down of Fed balance sheet expansion by the end of June next year. This was largely in line with expectations, with the Fed also providing some room for flexibility in guiding that it is “prepared to adjust the pace” of the tapering process “if warranted by changes in the economic outlook”. Chair Powell continued to outline the case that inflation levels would ease back in the future once the bottlenecks in the economy eased, perhaps not until “well into next year”, rhetoric that suggests it the bar may be high for accelerating the pace of tapering, though perhaps less so if evidence of a wage-price spiral dynamic develops. Rate expectations for late next year ended yesterday in the middle of the 1-week range, suggesting that the market was no particularly surprised by this meeting.
Chinese housing market weakness is spreading to onshore bonds. Shares in real estate developers are down today extending the last week’s declines underscoring that the situation is still worsening despite the government’s attempt to calm the blow. Caterpillar confirmed in their Q3 earnings release that growth in China is coming down significantly from previous years. Until now most of the nervousness has been concentrated in the high yield bond market and mostly offshore, but today two CNY onshore bonds were halted for trading highlighting that the housing situation could easily spill over into the broader economy.
US Oct. ISM Services soars to 66.7, the strongest ever reading in the 24-year history of the survey and far above the 62.0 expected and the 61.9 of September. The New Orders index of the survey was also a highest-ever 69.7 and Prices paid rose to 82.9, also a record high for the survey. Employment was one of the weak spots at 51.6, but this was likely due to difficulty in hiring rather than slack demand for
US Oct. ADP Private Payrolls rose +571k in October. This was versus expectations of +400k and 523k (down from original estimate of +568k). It should be noted that this data series often fails to indicate what the official Nonfarm Payrolls Change data point for the month will show: for example, the September Nonfarm Payrolls Change was out at only +194k, a more than 300k difference.
The UN Food-price index, already at a decade high after rising 32% over the past year, will be updated today, and the latest print may point to more pain after several key food commodities rose again last month. Not least wheat which is rallying on tight global supply outlook and strong export demand from key buyers in North Africa, Middle East and China. Corn (ZCZ1) has moved higher recently on strong ethanol demand and soaring fertilizer and diesel bills for farmers.
ECB President Lagarde says conditions unlikely for ECB rate hike next year- this is a follow up to the ECB President’s press conference in the wake of the ECB last week in which she pushed back against the market pricing in sharply higher odds of a rate hike next year. The December 2022 Euribor futures have been very volatile over the last week – dropping as low as 100.15 on Friday after starting last week at 100.31, and trading this morning close to that latter level.
Poland hikes rates more than expected, with a move of +75 basis points that takes the bank’s policy rate to 1.25%. The bank was only expected to move another 25 basis points yesterday, so the Polish zloty strengthened sharply on the day. Governor Glapinski said that the bank would do “whatever it takes” to get ahead of inflation, which is expected to peak at or above 7% in January.
What are we watching next?
Bank of England meeting later today, with a slight lean in favour of the bank initiating its rate hike cycle at this meeting rather than waiting for the December meeting. Given the Bank’s 0.10% policy rate, most believe that it is likely that the bank would hike a modest 15 basis points if it moves today before beginning normal 0.25% hikes in subsequent decisions. Given that the market has priced a series of rate hikes for the year ahead, the Bank’s opinion of the market’s pricing of its future policy trajectory will be critical.
US Oct. Jobs report tomorrow. The ISM Services index for October, discussed above, suggests that the US economy is absolutely ripping and may even be overheating. It is not clear how the market might interpret the October Nonfarm Payrolls Change data, as it is clear that there is a labor supply problem with the backdrop of virus disruptions and vaccine mandates holding back employment as well as millions who have decided to retire early, many of them far more comfortable now with their pensions after the enormous rally in equity markets since the pandemic lows. In that light, there may be more focus on the average hourly earnings data if this shows another strong gain. How the report affects especially longer US yields, which have been quiet of late after extreme volatility at the short end of global yield curves as markets adjust to more hawkish central banks generally, could trigger more market volatility across markets.
Earnings Watch – A busy week is coming to an end with the most important US earnings to watch today being Moderna, Airbnb, Uber, MercadoLibre, Cloudflare, Pinterest, and Peloton Interactive. The earnings season overall is also coming to its final stage with 80% of S&P 500 companies have reported earnings with the conclusion being healthy growth q/q in earnings with Nasdaq 100 showing the strongest growth. While earnings are strong revenue growth is lagging pushing down profit margins a theme, we expect to continue in Q4.
Thursday: Verbund, Barrick Gold, Societe Generale, Siemens Healthineers, Deutsche Post, Vonovia, Enel, Toyota, SoftBank, Nintendo, ING Groep, Credit Suisse, Moderna, Square, Airbnb, Zoetis, Uber Technologies, MercadoLibre, Illumina, Cloudflare, Datadog, Carvana, Pinterest, Peloton Interactive
Friday: Enbridge, TC Energy, Honda Motor, Amadeus IT Group, Siemens Gamesa, DBS Group, Alibaba, EOG Resources, DraftKings
Saturday: Berkshire Hathaway
Economic calendar highlights for today (times GMT)
0700 – Germany Sep. Factory Orders
0815-0900 – Euro Zone Oct. Final Services PMI
0900 – Norway Norges Bank Rate Announcement
1000 – Euro Zone Sep. PPI
1000 – UN FAO’s Global Food Price Index
1200 – UK Bank of England Rate Announcement
1230 – US Weekly Initial Jobless Claims
1230 – US Sep. Trade Balance
1300 – OPEC+ JMMC Meeting
1330 – Czech Central Bank Repurchase Rate Announcement
1400 – ECB’s Elderson to speak
1400 – OPEC+ Ministerial Meeting
1430 - EIA’s Weekly Natural Gas Storage Change0030 – Australia RBA Statement on Monetary Policy
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