The market is a harsh mistress

Financial markets have been dishing up some harsh lessons to the accepted narrative this week. Having been blithely unkerned about US inflation since the FOMC, the renomination of transitory inflation dove, Jerome Powell, to the Federal Reserve Chair has seen long-dated bond yields ramping higher this week. Markets are now flapping about a faster Fed taper and earlier rate hikes.

Overnight, it was the turn of US President Biden to receive a similar lesson. Market’s thanked Mr Biden for his early signalling of an SPR oil release by taking back their shorts and sending oil over 3.0% higher overnight, after the President formally announced a release, in conjunction with other countries, totally between 70 and 80 million barrels. The devil is in the detail of course. The release will be dripped in gradually over the coming months. Given there is no way that President Biden can construe the present level of oil prices as a supply disruption, it’s just a market with rising prices; that caps his ability to release more oil. The overnight announcement was a one-shot wonder, and markets responded appropriately. OPEC+ refused to be cowed, but I do not expect them to fly too close to the sun and reduce their planned 400,000 bpd increase next month.

Today, the Reserve Bank of New Zealand raised its policy rate by 0.25% to 0.75%, and signalled interest rates had seen their lows. I would argue we have seen the lows globally, and not just in New Zealand. The RBNZ signalled a steady pace of hikes ahead, but instead of rallying, the New Zealand Dollar is 0.50% lower at 0.6915. That was despite the government announcing an easing in its totalitarian quarantine requirements for overseas visitors (and citizens) which should have also been ostensibly bullish. The street had priced in 0.25% and, like me, was probably looking for 0.50% to be meaningful.

Despite inflation concerns ramping up in the US as if it was a new and worrying development, gold is now around $90 an ounce lower than a week ago, at $1794.00 this morning. Bitcoin continues to look wobbly as well. Both are allegedly inflation hedges and should thus, outperform in this environment, both having shrugged off a stronger US Dollar recently. I would argue that though, that gold, and possibly maybe infinitesimally, Bitcoin, are only inflation hedges when inflation is running really really hot and real yields are collapsing. That’s not the case at the moment. US front-end yields have risen in recent weeks in response, flattening the curve, and long-dated yields have now started to play catch-up. A faster Fed taper, removing the oppression of QE, will help this process along.

Technology stocks have been under pressure this week and rising US bond yields (and yields elsewhere), lie behind the shakiness. Technology valuations have been sub-orbital for a long time now, and they are thus, more vulnerable to an upward adjustment in interest rates. It is hard to justify paying a 14285 P/E with a yield between -150% to 1.50% when you may be able to earn 2.0% on a “risk-free” US government bond in a couple of months’ time.  I’m not calling the top in technology, by the way, there are a number of oligopolies out there in the space that will remain cash-generating machines. If US bond yields continue to rise though, those of us mere mortals may finally be able to contemplate buying the dip, a real dip. Legacy sectors, such as banking and energy and resources, should theoretically outperform in this environment.

The Korean Won has held steady this week as other regional currencies have weakened in the face of the mighty Dollar and higher US yields. My reasoning behind forthcoming Asian FX weakness is well documented in past notes, so I won’t repeat myself again. I believe the Won has remained firm because the Bank of Korea is expected to raise policy rates by 0.25% tomorrow. I do, however, feel it will play catch-up and have a Kiwi moment if the hike is less than or equal to 0.25% as like oil, gold and Kiwi, the news is priced in. Markets are hedging their bets for now in case there is a surprise.

The buy/sell the rumour, buy/sell the fact (depending on the asset class), price action this week can be traced back to one occurrence, the sudden jump in the US 30-year yield this week, and to a lesser extent, the 10-year yield. For evidence, look at the rally in USD/JPY, the world’s premier yield differential play. USD/JPY has topped 115.00 this week, a 45-month high by my calculations, although I ran out of fingers and toes to count and the kitten asleep next to me refused to make her paws available. I will just add, the Japanese Ministry of Finance has no intention of intervening in USD/JPY at these levels so let’s put that to be right now. Call me back when we get to 135.00.

Until long-dated US yields start reversing their recent gains, and the author has long believed that is not a given, we shouldn’t expect an end to US Dollar strength, nor should we be getting excited about equity markets for the rest of this month and possibly into Christmas. The FOMC Minutes tonight might bring solace if they have a dovish tone, my bet is that they will not and that the FOMC members are as divided as the US Congress on the next course of action. US GBP Q3 estimate tonight is old news, but Durable Goods and Personal Income and Spending should be good for some volatility. If anything, markets are more vulnerable to the data reflecting more inflationary pressures, especially if Personal Income exceeds 0.50% for October.

Germany’s IFO this afternoon may reinforce the Covid-19 Euro-gloom if it is weaker than expected. For now, Europe’s issues are being thrust from the spotlight by events in US markets and are unlikely to materially impact energy prices, for example, this week, short of a German and/or France lockdown, partial or otherwise. Tomorrow is the Silence of Turkey’s Day in the US, and I expect most Americans will make a long weekend of it. Thus, in an act of famous last words, I expect markets in Asia especially, to coast into the end of the week.

Asia equity markets are drifting today

Asian equity markets are drifting today in sympathy with the price action on Wall Street overnight. Wall Street once again marked down technology stocks as US 30-year yields moved sharply higher once again, while banking and energy outperformed. The S&P 500 closed just 0.17% higher, and the Nasdaq fell by another 0.50% as the Dow Jones rose by 0.55%. Futures on all three indexes have eased by around 0.20% in Asia.

Price action in Asian markets is broadly reflecting Wall Street. Japan’s Nikkei has slumped 1.55% on its return from holiday, while South Korea’s Kospi has fallen by 0.30% and Taipei by 0.25% reflecting their more tech-heavy makeup. In Mainland China, the PBOC added liquidity via the repo today and that is providing some modest support. The Shanghai Composite is -0.10% lower with the narrower Shanghai 50, loaded with SOE heavyweights and banks, which has risen by 0.20%. The CSI 300 is just 0.10% higher and Hong Kong is unchanged.

ASEAN markets, which more closely resemble the Dow Jones and S&P in makeup, have risen modestly. Singapore is 0.20% higher, Kuala Lumpur is unchanged, and Jakarta is up just 0.05%. Manila is flat while Bangkok has risen by 0.65%. Australian markets are also marching on the spot with the ASX 200 and All Ordinaries flat for the session. A post RBNZ rate hike fall by the Kiwi, and an impending easing of international visitor restrictions has left the NZX50 up 0.35%.

European markets were crushed on fourth wave delta concerns yesterday, and I expect that sentiment to persist throughout today’s session as well, particularly as Wall Street is providing no strong lead. A weak German IFO will add to the dark clouds as will announcements of further movement restrictions from major European governments. Wall Street will be awaiting the US PCE and Durable Goods data this afternoon before heading for the door early for Thanksgiving. Only a series of low prints, easing inflation concerns, is likely to change the cautious narrative in US stock markets this week.

US Dollar consolidates

The US Dollar paused for breath overnight, despite more gains by long-dated US yields. With a US holiday ahead and data this evening, currency markets in New York appeared content to consolidate recent greenback gains. The dollar index was almost unchanged at 96.49, before rising to 96.56 in Asia today. The index’s initial target is the June 2020 highs around 97.80 with support at 96.00 and 95.50. The index’s relative strength index (RSI) indicator remains in overbought territory suggesting the US Dollar is vulnerable to a short-term correction lower before resuming its uptrend.

USD/JPY volumes were thinned by a Japan holiday yesterday, leaving USD/JPY unchanged around 115.00 this morning. Comments from a Japanese official that they were watching USD/JPY appears to be capping the upside temporarily. Assuming the US yield rise is maintained, USD/JPY could extend gains to 115.60 in the first instance, while support remains at 114.00 and 113.50.  

EUR/USD traded in a narrow range overnight but remains covered in silt at 1.1235 today. US Dollar strength has been compounded by Europe’s delta situation and the single currency remains on track to test 1.1160 this week. That in turn sets up a potential retest of 1.1000. Only a reversal of US yields lower alleviates the negative outlook, although the Covid-19 situation will cap any gains. GBP/USD probed support at 1.3350 overnight but has since recovered to 1.3375 in Asia. 1.3400 and 1.3500 are resistance while Sterling remains vulnerable to a test of 1.3300, being guilty by geographic association with the Euro.

An as expected 0.25% hike by the RBNZ today has seen NZD/USD drop sharply by 0.65% to 0.6905, with nearby support at 0.6900 in danger of failing. That would open further losses to 0.6800 initially. With no RBNZ meeting until February now, the Kiwi is looking a lot more vulnerable than in recent times. With market hopes of a 0.50% hike now dashed, its yield differential support has eroded. AUD/USD has been dragged lower by the Kiwi, falling 0.35% to support at 0.7200 today. Failure signals further losses to 0.7100. With risk sentiment weighted negatively globally now, further US Dollar haven buying will darken the outlook further for AUD and NZD.

The PBOC set a neutral fixing, almost unchanged at 6.3903 today while adding CNY 100 billion in liquidity via the repos. USD/CNY, however, remains anchored below 6.3900. That continues to provide some support to regional Asian currencies, but it is only slowing the slow sell-off in weakness Malaysian Ringgit, Thai Baht, Indian Rupee, and Indonesian Rupiah as US yields continue to rise. The Korean Won is holding steady at 1189.50 as markets await the Bank of Korea policy decision tomorrow. The Won could weaken sharply and play catch-up if the BOK hikes by 0.25%, as expected.

Oil gives Biden a bashing

Oil delivered a resounding slap to the face of President Biden overnight after he finally announced his well-telegraphed intention to release oil from the SPR onto open markets. Totalling some 70 to 80 million barrels, if you include international partners joining the US, the releases will be spread over several months. With President Biden using most of his discretionary quota available last night from the SPR, the amounts released over the time frame will not be enough to materially impact oil prices, and clearly, markets also thought the same. European Covid-19 lockdown concerns may act as a cap to prices in the short-term, but again, will not structurally upset the bullish dynamics underpinning oil and energy prices. Additionally, OPEC+ does not have the capacity to radically increase production, even if they wanted to, which they don’t.

After the announcement, Brent crude leapt 3.50% higher, finishing at $82.25 a barrel. WTI jumped 2.65% higher, closing at $78.50 a barrel. In Asia, prices on both contracts have crept another 25 cents a barrel higher, with physical buyers perhaps ruing a missed opportunity earlier this week. Both contracts bottomed out above their 100-day moving averages and yesterday’s move likely signals the correction lower for oil is over.

Brent crude is testing resistance at $82.50 this morning which is followed by $83.25 a barrel. Support is distant at $78.60 and 477.60 a barrel with the 100-DMA lurking at $76.85. WTI has nearby resistance at $79.30 a barrel followed by $80.00 and $82.00 a barrel. Support is at $75.30 and $77.70 a barrel, followed by the 100-DMA at $74.30. A larger than 1 million barrel fall by US official Crude Inventories this evening could spark and jump in prices.

Gold’s bond torment continues

Gold’s awful week continues to go from bad to work, thanks to another jump higher by US 10-year, and especially, 30-year bond yields overnight. Combined with a rock-solid US Dollar, gold was pummelled once again, falling 0.87% to $1789.00 an ounce, having tested the 50, 100, and 200 DMAs intraday. Some short-covering has once again lifted gold in Asia, climbing 0.35% to $1795.00 an ounce. The rally, however, looks strictly corrective.

Having been burnt so badly, even if US yields correct lower tonight ahead of the Thanksgiving holiday, investors are likely to be much more cautious at re-entering long positions. Momentum will be muted and that means that the $1835.00 to $1850.00 region will cap gains this week, although I will be surprised if we even get as far as $1810.00 an ounce. If US yields remain firm this week, gold will be vulnerable to further losses. The 50-day, 100-day, and 200-day moving averages are clumped together between $1789.30 and $1793,50 an ounce. A daily close below this zone signals deeper losses targeting $1760.00 an ounce with interim support at $1780.00.