What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) - US equities pushed lower yesterday with Nasdaq 100 futures trading around the 13,065 level in early European trading hours with the 13,000 level. S&P 500 futures are also heavy this trading just above the crucial support level at 4,150. Technically the direction is negative for US equities and with the US 10-year yield moving above 2.1% yesterday the pressure is mounting on equity valuations. With the VIX above 31 and the negative momentum building added by steep losses in Hong Kong trading today today’s session could be very fragile.
Hong Kong’s Hang Seng Index (HSI.I) & China’ CSI300 (000300.I) continued to slide after yesterday’s meltdown in Chinese equities, with Chinese tech giants bore severe blows. After plunging 11% yesterday, Hang Seng TECH Index (HSTECH.I) fell another 4% today to make another new low not seen since August 2019. Heng Seng Index and CSI300 were down again 4% and 3% respectively. Northbound stock connect outflows from A shares amounted to about RMB 14 billion today by the time of writing.
European equity markets – Stoxx 50 futures are down 1.5% trading around the 3,680 level in early trading reversing the recent positive momentum following the negative sentiment out of China. The lockdowns in various regions of China will add to bottleneck and inflationary pressures for companies in Europe and thus forward expectations for operating margin is negative. The trading range in Stoxx 50 futures is still 3,600 to 3,800.
USDJPY and JPY crosses – USDJPY has exploded higher recently on the sharp rise in global bond yields, with the long-end of safe haven US treasuries supporting the move above the former 116.00 highs (although we can’t help but notice the move coinciding with the USDCNH move higher). USDJPY traded as high as 118.45 overnight, with the natural focus now on the next round level of 120.00, although we should also see whether the FOMC meeting tomorrow provides any change of mood or pivot in the direction of long yields, the most critical of coincident indicators for the JPY and its crosses.
USDCNH – after a long period of trading in very uninspiring range, despite considerable volatility elsewhere, the USDCNH exchange rate has suddenly come unmoored and traded sharply higher towards the 200-day moving average (just above 6.41), in one of the largest two-day moves in months on Friday and yesterday, even if the exchange rate is not much more than a percent off the lows of the last week. Covid lockdowns and rising commodity prices present severe growth headwinds for the Chinese economy.
Crude oil (OILUKMAY22 & OILUSMAY22) has weakened further with Brent almost touching $100 /b in Asian trading after having given back most of its war premium and gains following the February 24 attack on Ukraine. Russian oil remains off limit for many buyers with some cargoes being offered at discounts up towards 30 dollars below Brent. Ongoing peace talks between Russia and Ukraine and the resurgence of virus cases in China, the world's biggest importer of oil, have supported an abrupt turnaround in sentiment. In addition, last week’s surge to a record high in diesel and gasoline has left some consumers and industries in shock and some demand destruction may already have started. Apart from the peace talks, the market will also be look out for OPEC’s Monthly Oil Market Report.
Gold (XAUUSD) retraced 50% of the 290-dollar February gain with the continued drop in crude oil and jitters and rising Treasury yields ahead of tomorrow’s FOMC meeting forcing short term momentum longs to exit their positions. Asset managers and long-term investors, however, continue to accumulate exposure with total holdings in bullion-backed ETFs rising to a one-year high despite the recent price correction. While the war premium will deflate and eventually disappear, the risk of stagflation will not, and that remains a key theme that will likely continue to attract demand. Support at $1925 followed by the big one at $1890.
US Treasuries (IEF, TLT). Inflation expectations rose to record high levels yesterday as China locked down a region due to a rise of Omicron infections, increasing fears of supply chain bottlenecks. Consequently, real yields together with nominal yields across the yield curve rose on the idea that the Federal Reserve might need to be more aggressive for longer. The market now is pricing seven rate hikes this year. Therefore, the focus remains on Wednesday’s FOMC meeting. The market is expecting a 25bps rate hike, but communication surrounding the dot plot and a reduction of the Fed’s balance sheet might be more relevant. Any hawkish or dovish surprise can move markets sensibly.
EU Sovereigns (VGEA, IS0L, IGLT). Expectations of stronger inflationary pressures provoked yields to rise in the euro area. Ten-year German Bund and Gilt yields rose to the highest levels since 2018, 0.37% and 1.61% respectively. Following a hawkish surprise form the ECB last week, European sovereigns remain vulnerable to the Federal Reserve and BOE decisions as well as to news concerning the war in Ukraine. Sovereigns from the periphery will be most vulnerable as the only element to limit the widening of their spreads is news related to a new E.U. bond joint issuance.
Russian government bonds (RSX). This week, Russia might default on its debt. While the Credit Derivatives Determination Committee has agreed that payment in ruble for six Russian bonds containing the “fallback optionality” will not constitute a default, there are two bond issuances that do not have such an option and require the payment in US dollar. If Russia pays interest on these bonds in local currency, the country might run the risk of default. Yet, a default will not be recognized until 30 days due to the grace period. Therefore, this week we might get some sporadic news surrounding Russia's interest payments, but a default will only be confirmed a few weeks from now.
What is going on?
The US told allies that China is open to providing delivery of military assistance to Russia in support of its invasion of Ukraine, according to “officials familiar with American diplomatic cables”. Five types of equipment were included in Russian requests for military hardware, including surface-to-air missiles, drones, and support/armored vehicles. China’s embassy in the US claimed no knowledge of this request. A meeting between US national security adviser Jake Sullivan and Chinese politburo member Yang Jiechi saw the latter claiming that China is a neutral party and one that is “committed to promoting peace talks” as it “has always advocated respecting the sovereignty and territorial integrity of all countries.”. The US threatened “consequences” if China supports Russia’s invasion, but both sides put a positive spin on the tone after six hours of talks yesterday in Rome, with the US side saying that talks were “substantial”, while China deemed them “constructive”.
China’s People’s Bank of China (PBOC) surprised the market by keeping its policy interest rates unchanged. After the much weaker than expected aggregate financing and load data released last Friday, in particular a negative print in new loans to households, mainly mortgages, the market expected the PBOC to cut rates today. Apart from outflows in equites, foreign investors reportedly turned to net seller of US$35 billion worth of Chinese Government Bonds in February. Renminbi weakened notably since last Friday, currently trading at 6.38 onshore and 6.40 offshore. While the Hong Kong dollar spot weakened to 7.83 vs U.S. dollar, the USDHKD forward curve was steady. 12-month USDHKD forward trading at -255, showing no sign of stress on the linked-exchange rate.
China released stronger than expectation industrial production (+7.5% YoY), fixed asset investment (+12.2% YoY) and retail sales (+6.7% YoY) data for the first two month of 2022. Nonetheless, investors are skeptical about the sustainability of the momentum in economic activities amid the escalation of COVID related restrictions and lingering weakness in the property sector.
Rio Tinto (RIO) made a $2.7 billion takeover offer for NYSE’s Turquoise Hill copper-gold mine, valuing its shares at C$32 (that’s a 32% premium to its prior close). We think this is a good pivot for the iron ore heavy miner to diversify. Also, at Saxo, we think this reflects the climate of what’s going on in markets; and that is that gold has historically outperformed broad equities across every Fed rate rise cycle since 1972. Also consider that copper should bode well given the pivot to green energy; the average EV needs 83 kilogram of copper, while coppers also needed in housing.
Cryptocurrencies - Yesterday the European Parliament's Committee on Economic and Monetary Affairs voted against a version of MiCA - the Markets in Crypto Assets regulatory framework. It could effectively have resulted in a ban of Bitcoin and other proof-of-work cryptocurrencies within the EU, and the vote is thus seen as a big relief for some in the crypto industry who feared a strict regulatory framework.
What are we watching next?
FOMC meeting tomorrow. It’s finally FOMC time tomorrow as we await the Fed’s decision and guidance at a time of enormous uncertainty on the course of inflation due to the new pressures stemming from the war in Ukraine. Making life difficult for the Fed are that the fresh supply side shocks of spiking commodity prices will slow real economic growth, with or without a series of rate hikes that the market has now priced in. Further supply chain snarls from China’s struggle with Covid bare an additional risk for the economy after yesterday saw a lockdown of one of China’s largest export hubs Shenzhen. The Fed is priced to hike 25 basis points tomorrow and to indicate that it is likely to hike by 50 basis points at the May meeting, with a total of seven rate hikes this year. The market will also scrutinize the latest Fed economic and policy projections, which will be refreshed in tomorrow’s “projection materials”.
Formal Russian default tomorrow? Russia has said that it will only pay interest payments on foreign debt in rubles as long as sanctions are making settlement in US dollars impossible. Some $117 million in interest payments is due and the ripple effects into the country’s $150 billion in foreign debt are a concern, if one includes Russian sovereign debt and the debt of large Russian companies like Gazprom and Lukoil.
Nickel trading on the London Metal Exchange will resume on Wednesday at 8 am GMT. A 150,000 tons short position held by China’s Tsingshan Group Holding helped trigger a 250% melt up in prices last week, forcing the LME to halt trading on Tuesday. The exchange subsequently took the dramatic step of canceling $3.9 billion of transactions that had taken place between $50k and $101k a ton. The debacle has taken days to clear out with Xiang Guangda, the owner of the Tsingshan refusing to close his short position. With sufficient funding now assured from banks including JP Morgan, trading can now resume, but deep scars remain.
Luxury stocks adjusting to Russian wealth seize. While European luxury stocks have retreated from their highs together with the rest of the equity market the fallout from Russian wealth seizes could lead to a severe deterioration in the outlook. Investors should be cautious on luxiury stocks.
Earnings Watch. Volkswagen is the key earnings to watch today for its update on EV deliveries in Q4 and progress on getting production lines back online following the fallout from the war in Ukraine. On Wednesday the market will focus on Inditex and Lennar with latter being the most interesting one given its signal value on the US housing market. On Thursday the two earnings releases to watch are from FedEx and Pinduoduo.
- Today: Volkswagen, RWE, Assicurazioni Generali
- Wednesday: E.ON, Inditex, Lennar
- Thursday: Verbund, Veolia Environment, Enel, Accenture, FedEx, Dollar General, Pinduoduo
- Friday: China Merchants Bank, CITIC Securities, Vonovia, Ping An Insurance, Zijin Mining Group
Economic calendar highlights for today (times GMT)
- During the day: OPEC’s Monthly Oil Market Report
- 0900 – Poland Feb. CPI
- 0900 – Norway Region Survey
- 0930 – API's Weekly Report on US Oil and Fuel Stocks
- 1000 – Germany Mar. ZEW Survey
- 1000 – Euro Zone Jan. Industrial Production
- 1215 – Canada Feb. Housing Starts
- 1230 – US Feb. PPI
- 1230 – US Mar. Empire Manufacturing
- 1230 – Canada Jan. Manufacturing Sales
- 1515 – ECB President Lagarde to speak
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