Trader thoughts as we close out a volatile week

We close out the week on another soggy note, although the bulls will take that we have come nicely off the earlier low, and Chinese markets are rallying. With so much pessimism in the mix, I have put a few charts that I feel are quite poignant from a macro-perspective. 



Gold – I turned bullish on gold a number of weeks ago, with a note that gold was the ‘best house in a bad neighbourhood’. That view is playing out well and the combination of falling ‘real’ yields, elevated volatility and a lack of positive qualities in other G10 currencies, gold has been a superstar of 2019. 



To gold bulls, the chart of gold priced in AUD is not new. And, it's not just in AUD terms, we see gold rallying in most currencies in G10 FX, aside from the JPY and the CAD. One to watch, but certainly, the idea that traders have been buying gold and moving their USD exposures to AUD has worked a dream. 


 
While gold in AUD made a new all-time high, gold in USD (see chart above) is working beautifully – The daily chart shows a strong, even textbook trend, with limited pullbacks and an untold number of higher highs. That said, I can't be buying here, the price is way overextended – so, the reality for me is whether to take profits or simply tighten up the stop. My view is to tighten stops into $1277.
 
Is EURUSD ‘cheap’ - take II?



On the Bloomberg chart above we can see:

•    Top pane     
o    Red line – US/German 10-year bond yield spread
o    Orange line - EURUSD

•    Lower pane
o    Citigroup US economic surprise index – The index measures US economic data prints relative to the consensus expectations. You can see a clear trend in the deterioration of US economic data releases

Similar to the chart I put out earlier in the week on relative interest rate differentials, the long-end of the yield curve also suggests EURUSD is fundamentally ‘cheap’…we need a catalyst!
 
Staying on the theme of US data, here we see:


•    Orange – Bloomberg US financial conditions index
•    Blue – US ISM manufacturing. This was released overnight and missed expectations by a margin
•    White - US ISM manufacturing new orders sub-component – A huge deterioration 

While manufacturing is a mere 12% of US GDP, the correlation with US financial conditions is there for all to see. So, it matters.
 
For those interested in which inputs feed into Bloomberg’s financial conditions index. 

US 10-year Treasury vs the Fed funds rate (the top of the range) – Here we see the yield on the US 10-year Treasury a mere five basis points from the top of the Fed funds range (that being, 2.50% to 2.25). We can already see the 2- and 5-year Treasury lower than the top end of the FF range, but it's rare to see the 10yr Treasury trade at a discount to the fed funds rate – it tells me so much about sentiment.

Event risk – All eyes on tonight’s US payrolls at 00:30 aedt, and woe-behold should this not meet the market, as the US labour market has been such an inspiration. However, given such depressed market pricing (the rates market is pricing a 16% chance of a cut by March, which won’t happen), I would be focused on Powell’s speech at 02:15aedt…If Powell comes closer to market pricing, while giving off an impression he sees better times ahead, then perhaps risk assets can feed off that.


 
Yield curve flattening – For those who read the FT, AFR or Bloomberg (among others) would have read a lot of chatter about yield curve flattening and what it suggests about the economy. Strategists and traders focus on different parts of the curve, but for me, I like to look at 3-month Libor – US 5-year forward rate. The 5-year forward rate is a tradeable proxy of where traders see the so-called long-term ‘neutral’ rate, or the future policy rate that is neither stimulatory or restrictive relative to the expected level of inflation and growth. 



So, when the Libor rate, arguably the most important interest rate out there, trades at a premium to the 'neutral' rate it shows financial conditions have become outright restrictive. The differential sits at zero now. It is also one of the best leading indicators for a recession, which we can see from the red shaded area.
 
Apple – Seldom do I focus on individual equity names, but I had to be impressed at Tom Forte (covers Apple at D.A Davidson), who cut his 12-month price target by $20 to $260 after yesterday’s Q1 revenue downgrade. Now, I understand models are a collection of assumptions which provide an expected level of cash flow which we can discount using a WACC (Weighted Average Cost of Capital). But, even after this to assume an 80% return is crazy in this environment. 



So, if you’re bullish Apple remember you are not alone!