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Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I)
Nasdaq 100 and S&P 500 futures reacted positively to the FOMC statement and rate decision hiking the Fed Funds Rate by 0.75% to 1.50-1.75% as the FOMC’s projections for inflation, terminal rate and unemployment were interpreted as things will not spin out of control despite significant tightening of monetary policy. S&P 500 futures rose to end the session with the first gain in six trading session, however, already this morning the index futures are coming down trading around the 3,780 level suggesting considerable uncertainty over the interpretation of yesterday’s FOMC action. In any case, the Fed’s model forecasts are useless right now and as thus the market should put little weight on them, and the economy has a much higher interest rate sensitivity compared to previous times which the Fed may underestimate in their assessment. Our view on equities remains defensive and cautious for now.
Hong Kong’s Hang Seng (HSI.I) and China’s CSI300 (000300.I)
The two indices fluctuated between moderate gains and losses. While sentiments towards Chinese equities have improved amid better-than expected headline economic data over the past couple of weeks, investors remain cautious about the growth outlook of the Chinese economy, citing the persistent risk of resumption of lockdown and weaknesses in the production volume of power, cement and steel. Shanghai will start doing city-wide mass COVID-testing every weekend. An online story about a Hong Kong based Chinese financial institution having suffered a huge loss from its investment in Chinse corporate offshore USD bonds was widely circulated in the market yesterday and highlighted the problem of financial distress among Chinese property developers.
USDJPY and JPY pairs
The pressure on the Bank of Japan is intensifying ahead of the BoJ meeting tonight, as speculators have mounted a direct challenge to the BoJ YCC policy by selling JGB futures and taking the implied yields some several basis points above the BoJ’s 0.25% yield cap. The BoJ has fought back with countermeasures in the market. With the Fed raising the pace of its rate tightening yesterday and the ECB getting priced to move to a faster pace of hiking than previously anticipated, the pressure may become intolerable on the Japanese yen and force the BoJ to capitulate soon. USDJPY sold off yesterday as the FOMC meeting brought a buy-the-fact reaction in US treasuries, but remains pinned not far from the recent cycle- and post 1998 highs above 135.00.
CryptocurrenciesThe 5 % rebound in cryptocurrencies overnight is a bright moment in the stormy crypto markets this week, with Bitcoin being back around the USD 22k level and Ethereum trading just below USD 1.2k. The inflow to Bitcoin exchanges is high, both from traders and bitcoin miners, which indicates a larger willingness to sell, compared to holding their bitcoin in personal wallets.
Crude oil (OILUKAUG22 & OILUSJUL22)
Crude oil trades firmer overnight following a day of weakness that delivered the first 75 basis point US rate hike in decades and high frequency data showing the US could be heading for a recession, US production reaching 12 million barrels/day for the first time in 26 months, and the IEA says global supply may struggle to meet rising demand in 2023. China’s battle with Covid19 outbreaks continue with Shanghai to mass test the whole city weekly until the end of July. After failing several attempts to break higher, the short-term outlook has turned somewhat negative, with Brent now trading through trend line support at $119.4. However, given the tight supply outlook, support is likely to emerge already between $116 and $113.25.
Gold took the 75-basis point rate hike on the chin to trade higher on a day that also delivered disappointing economic data which increasingly pointed to a sharp slowdown in the US economy. The US ten-year real yield, which hit a 40-month high ahead of the FOMC meeting at 0.87%, has since dropped back to 0.6% while the dollar remains elevated near a multi-year high. In our latest gold update, we highlighted the current battle between surging yields adding pressure and support from investors looking for a hedge against rising risks of stagflation, that battle has most certainly intensified during the past 24 hours. Key support in the $1780 area with resistance at $1844 followed by $1880.
US Treasuries (TLT, IEF)
US treasury yields fell all along the curve yesterday in the wake of the FOMC meeting, which produced the 75-basis-point hike that was expected, and perhaps leaving the general impression that the Fed will continue to let incoming data and financial conditions dictate the pace of rate tightening (not allowing inflation to further spiral out of control and keeping the longer end of the yield curve somewhat anchored), as it was a considerable feat to hike the policy rate by the most since 1994 yesterday. Still, as long as US yields trade north of perhaps 3.15-25% at the 10-year, the rising yield trend persists. The next clear chart point to the upside is the 4.00% level.
What is going on?
ECB emergency meeting to address fragmentation fails to impress
The meeting merely produced a statement indicating a determination to address “fragmentation” in monetary policy transmission, whereby yields in peripheral EU economies, particularly Italy and Greece, rise more than for core countries. Committees are charged with creating a “tool” to counter these risks and the ECB reiterated that it can be flexible in reinvesting maturing assets on its balance sheet (skewing these to the periphery to keep spreads orderly). We don’t have many details for the moment. Based on Isabel Schnabel’s recent comments, we can assume it will be Outright Monetary Transactions program with light conditionality, for a temporary period and with shorter maturities than PEPP (perhaps between two to five years). The euro fell sharply yesterday on the news as it leaves the impression that the ECB will maintain a semi-QE stance on the one hand to address fragmentation even as it hikes the policy rate.
Fed hikes 75 basis points as expected, makes clear that data in controlThe 75-basis-point move was fully priced into the market. A surprising dissenter was Esther George, who voted for a 50-bp hike. In the economic forecasts, it is clear that the Fed is concerned of rising risks of a weakening economy, as GDP forecasts for this year and next were revised sharply lower, and the unemployment rate is seen as generally rising for the entire forecast horizon through 2024 – to 4.1% by the end of that year vs. 3.6% currently. Inflation forecasts were raised for this year, but the forecast for core inflation for 2023 was only nudged 0.1% higher to 2.7% and the 2024 forecast was unchanged at 2.3%. The dot plot forecasts of the Fed policy rate were all revised sharply higher by a relative to March, approximately meeting market expectations as the median for a year-end 2022 rose to 3.4%, with increases continuing to a terminal rate of 3.8% in 2023 before rate cuts occur in 2024 back to 3.4%. Rate guidance was key in the Fed Chair Powell press conference, as he suggested that July could be either a 75-bp or 50-bp hike but beyond that, Powell does not expect 75-bp hikes to be common. In essence, after the Fed reaches what it considers neutral (approx. 2.5%), the pace will slow down from there, which means there is still room for a hawkish surprise from the Fed – but the general impression is that the data is in control of what the Fed will do from here.
New Zealand Q1 GDP also disappointed
We had New Zealand GDP out this morning, coming in below expectations at 1.2% y/y for Q1 (vs expectations of +2.4%). On a q/q basis, GDP was down 0.2%, although Q2 may rebound as consumption revives on the back of easing restrictions and reopening of borders. With the risk of a recession remaining restrained and inflation likely at about 7% this quarter, RBNZ is likely to continue to tighten.
May U.S. retail sales fade
Retail sales are out minus 0.3 % month-over-month versus expected 0.1 % (adjusting for inflation it was out at minus 1.2 %). This is the first drop of the year. Core retail sales (excluding autos, gas) rose 0.1 % month-over-month versus expected 0.4 % (adjusting for inflation it was out at minus 0.7 %). This is disappointing. The report was certainly much more important than the ECB statement yesterday. It shows that demand destruction is finally happening.
Wave of layoffs in the United States
In the past few days, several major companies have announced they will cut labor force: Warner Bros Discovery (cut 30 % of advertising sales force), Redfin Corporation (around 8 % of total employees), Compass (10 % due to the housing slowdown), Coinbase (18 %). This is only the beginning. Companies are adjusting to the new economic paradigm: high inflation for longer and lower GDP growth. This will have a very negative impact on the upcoming employment figures covering the months of June and July, especially. The U.S. Federal Reserve had to deal with the inflation headache. On top of that, they will need to handle a likely slowdown of the labor market too.
Cosmetic firm Revlon files for chapter 11 bankruptcy
The company has been struggling for years prior to the pandemic with high debt and unstable operations. The pandemic and subsequent supply chain disruptions were too much for the $2.1bn revenue company.
Japan’s swelling imports to weigh on Q2 growthJapan’s trade deficit widened to a fresh eight-year high in May as the yen’s slide inflated the cost of imports. The trade deficit increased to 2.38 trillion yen, the most since January 2014, as imports soared 48.9% y/y. Exports rose 15.8% y/y, coming in below expectations of 16.1% gain.
Australia’s energy crisis worsens
Just a day after the Australian Energy market suspended trading in the spot energy market, amid a lack of supply, calling for companies/states to rise energy supply, BHP came out today scrapping the sale of its coal business, saying it will mine coal until 2030. BHP (BHP) rose 0.5% on the back of the news, in Australia trading. This comes despite the iron ore (SCOc1, SCON2) price falling for the 6th day.
What are we watching next?
Bank of Japan meeting tonight and JPY volatility risking global contagion
The market is challenging the Bank of Japan on its intent to maintain the yield-curve-control policy ahead of the Friday BoJ meeting as JGB futures have sold of sharply at times this week, taking implied yields above the BoJ’s yield cap. JPY volatility could prove tremendous if the Bank of Japan abandons its yield-curve-control policy tonight, but there are a range of scenarios for Governor Kuroda and company tonight: maintain course despite the mounting pressure, tinker with the policy by shifting the YCC cap levels by a smaller or slightly larger amount, or abandoning the policy altogether. It is hard to believe the Bank of Japan will simply walk away from its policy, so something in between (moving the cap) or nothing at all may be the more likely scenario, but how aggressively will the market react? Will it see any BoJ shift as pointing to an eventual capitulation? Contagion risks are considerable if JPY volatility spikes.
SNB and Bank of England meetings today
The SNB may move today with a rate hike as it is a long wait for the September meeting – watching USDCHF as parity has traded again recently. The Bank of England is expected to hike only 25 basis points, which could renew pressure on sterling via GBPUSD in particular, given the contrast with the Fed’s larger hikes. At some point, the BoE needs to consider the risks to inflation from a currency angle – interesting if this issue is brought up in any comments today. Note that 1.2000 is an enormous chart level in GBPUSD and traded earlier this week.
Earnings WatchToday’s earnings focus is Adobe which will test customer resilience amid weakness in online advertising and potentially also content creation, as companies are looking to slash costs. Analysts are expecting 13.3% y/y revenue growth and EBITDA of $2.14bn suggesting an aggressive increase in the operating margin, which seems a bit out of line with the current dynamics.
- Today: Adobe, Kroger, Jalma
Economic calendar highlights for today (times GMT)
- 0730 – SNB Policy Rate Decision
- 0800 – EU CPI
- 1100 – Bank of England Rate Decision
- 1230 – US May Housing Starts and Building Permits
- 1230 – Philadelphia Fed Business Survey
- 1430 – EIA's Weekly Natural Gas Stock Report
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