China weaves Australia a yarn

The Australian press today is reporting that China is warning cotton mills not to buy Australian cotton, or risk having their import quotas slashed. The press further suggests that China is set to slap tariffs on Australian cotton. If correct, it will be another escalation China's reprisals against Australia as China continues to signal its displeasure with Australia's diplomatic posture towards it.

If correct, that will be Australian wine, beef, barley, coal and cotton exports by my count, that China is restricting into its markets. Except for wine and barley, most of the intervention appears to be verbal at the moment, thereby saving China a date with the World Trade Organisation. The products themselves are, notably, easily replaceable from international markets and not the sacred cow that is Australian iron ore. The lesson appears to be, that is you are not the United States, and you disagree with China publicly, China will use its power as the buyer of everything of last resort, to punish you economically. 

Although cotton exports to China only total AUD 800 million, not a massive number in the macroeconomic scheme of things, they are 65% if the not so luck countries cotton exports. It's the thought that counts, and other countries around the world with China as a critical market (i.e. everyone), may need to look at the definitions of pragmatism and ideology closely. That won't be an issue for Asia, with Japan telling the US today, that they won't be excluding Chinese firms from telecommunications networks. Other parts of the world, unless you are the United States, may need to think carefully on what they consider a good global citizen to be, and what Chia's definition of it is. Would you like some more Belt and Road money, sir?

The Australian Dollar is likely to remain under pressure today on this disquieting news, with pro-cyclical currencies on the back for anyway after risk hedging led to a surge by the US Dollar overnight. Unless China or Australia's governments start messing with iron-ore though, the ever-optimistic Australian equity markets should take this development in their stride.

Elsewhere, financial markets had a decidedly negative tone, driven by the explosion of the second wave of Covid-19 across Europe and the United States, with national restrictions coming into force across Europe. I would argue the second wave is a misnomer for the US; it never got out of the first one. US Initial Jobless Claims also rose overnight, adding to the frayed nerves. Although the continuing claims fell, the rise in initial claims comes against a backdrop of fiscal stimulus impasse in Washington DC. Notably, the Senate Republicans have split with President Trump, refusing to countenance a giant stimulus package, despite the President asking for even more than the Democrats $2.2 trillion. Looking at the President's polling numbers, I can't help feeling that this could be the start of the Senate Republicans cutting him loose to save their own jobs at the upcoming election. Watch this space. 

One week's poor claims data does not make a trend. However, with financial market's already nervous over Covid-19's potential effect on the economic recovery in Europe and the US, a US election two weeks away, Brexit nerves, and no sign of US fiscal stimulus, the timing is terrible. Markets will struggle to give the benefit of the doubt this week, but if initial jobless claims spike next week, we could see an ugly stampede for the exit door ahead of the US elections. That won't be good for the FOMO buy-everything equity crowd, and the prime beneficiary will be the US Dollar and the Japanese Yen. The US Dollar rose overnight, and I am now expecting it to continue to do so until the US election; barring a miraculous US fiscal stimulus agreement that the Senate will pass. 

Another item giving me cold sweats is a Blomberg report today that Hong Kong brokers are offering 20-1 leverage to retail investors for the upcoming Ant Financial IPO. With a date yet to be set, thanks to Chinese Government holdups, the frenzy surrounding the IPO increases by the day, notably by the brokerages themselves. After 30 years in the markets, I can tell readers that if something is too good to be true, it always is. And when the bright young financial things of each generation say this time it’s different, it never is. 

 

Leverage, Mum and Dad investors, and a sure thing, in one sentence never ends well. While I do not doubt the success of Ant Financial, the price action on the days after its IPO could be emotional. The only mitigating factor being that the IPO will be so oversubscribed, Mum and Dad's probably won't get much. But if they are leveraged 20x, and the stock price turns down, watch for the rush for the door. Leverage is a powerful tool, but one should note that 20x the profits on a "sure thing", also equals 20x the losses if it turns out it isn't, especially if thousands of you have identical "sure thing" positions. The Ant Financial IPO could represent "peak-FOMO" in the strange year, that is 2020.

Equities mixed in Asia

Stock markets in Asia are drifting today after Wall Street finished the day slightly lower overnight after soft US employment data, Covid-19 fears and US fiscal stimulus disappointment continued to weigh down on market optimism. Regional markets seem content to ride out the week in a quiet manner, with market price action being dictated by events in Europe and the US at the moment.

 

Nasdaq futures have fallen 0.80% in Asia, and that has sent the Nikkei 225 is 0.20% lower with the Kospi falling 0.65%. China's Shanghai Composite has risen 0.40%, with large caps outperforming. The CSI 300 has risen 0.25% with Hong Kong 0.50% higher. Taiwan is 0.50% higher with Singapore 0.60% higher. Meanwhile, Australian markets have retreated on China concerns, and the general risk-off falls seen overnight. The ASX 200 has declined 0.45%, with the All Ordinaries down 0.25%.

 

Regional markets appear to be taking their cues from China today, but rallies are unlikely to be prolonged with Europe and the US set for another nervous end to the week. With US fiscal stimulus remaining elusive, and Covid-19's spread across Europe and the US escalating, Northern hemisphere markets are likely to finish the week on a soft note as investors reduce risk into the weekend. That will cap gains in Asia today.

Risk aversion pushes the US Dollar higher

The increasingly higher risks of Covid-19, US fiscal stimulus impasse, and the impending US elections, saw a risk-aversion theme sweep currency markets overnight. The primary beneficiary was the US Dollar, although the Japanese Yen also made some gains. The US dollar index rose 0.40% to 93.78, squarely in the middle of its two-month range. 

The nail in the coffin appears to have been the US Initial Jobless Claims that unexpectedly rose overnight. Fears are increasing that the US jobs recovery may be running out of steam, although I would argue that we need to see more data as yet to confirm this. Nevertheless, when added to the other risk points mentioned above, the US Dollar looks set to end the week stronger, and that may well translate into Dollar strength all the way to the US elections. 

The rally by the US Dollar has left several major currencies delicately poised above support. With Europe also struggling with a Brexit trade negotiation impasse, as well as Covid-19 restrictions across the continent, both EUR/USD and GBP/USD fell overnight. EUR/USD fell 0.30% to 1.1710, just above monthly support at 1.1690. Failure targets the 100-day moving average (DMA) at 1.1600, with a loss triggering a potentially much larger correction that runs as far as 1.1150. 

Sterling's volatility continued, giving up its previous day's gains as it fell 0.85% to 1.2900. Brexit negotiations will continue to move the currency around in 100-point ranges. However, GBP/USD is approaching a critical support zone demarked by trendline support at 1.2870, and its 100-DMA at 1.2835. A daily close below this zone implies further losses to 1.2700 in the first instance. Brexit risk has not been appropriately priced into GBP/USD, in my opinion. A failure to agree on a trade deal leaves Sterling potentially vulnerable to deep losses. 

The pro-cyclical Australian and New Zealand Dollars both fell by nearly 1.0% overnight, leaving both teetering on deeper corrections lower. AUD/USD has broken its 100-DMA at 0.7100, trading at 0.7080 this morning. China fears and a further ramping up of the risk-aversion climate could see AUD/USD move lower to 0.7000 initially. If the US Dollar rally continues into next week as expected. AUD/USD could fall to 0.6800. The NZD/USD has fallen to 0.6600 this morning, just above its 100-DMA at 0.6580. It is vulnerable to a deeper corrective sell-off to 0.6500 initially, with US Dollar strength next week having the potential to see it fall through support at 0.6400.

Asian currencies continue to hold their own for the most part, coat-tailing a strong Yuan and positive China data. However, as risks increase in developed markets at seeming exponential rates, I expect that US Dollar strength will erode those gains and Asian currencies to move lower into next week, and possibly into the US election date. Overall, though, I still expect Asian regional currencies to outperform the G-10 in the shorter-term.

Stronger US Dollar Sends Oil Lower

Oil had a volatile session overnight, with both Brent and WTI trading in two-dollar ranges. Risk-aversion won the day though, with a stronger US Dollar pushing both contracts to a lower close. Brent crude finished 1.0% lower at $43.00 a barrel, and WTI finished the session 0.70% lower at 440.80 a barrel. With Covid-19 and US fiscal and election risks clouding the consumption picture after soft US jobs data, a higher than expected fall in official US crude inventories softened the bearish tone.

Risk aversion into the week's end has reasserted itself in Asia though, with both contracts falling another 0.60% in trading today. Brent crude has dropped to $40.70 a barrel with well-denoted resistance at $43.50 a barrel now. Support appears at the overnight low of $41.60 a barrel. WTI has fallen to $40.60 a barrel, with resistance between $41.30 and $41.50 a barrel. Support is at its overnight low of $39.30 a barrel, followed by $39.00 a barrel.

With a stronger US Dollar and Covid-19 in Europe and the US clouding the consumption outlook, it is unlikely that oil will recapture the highs seen this week. If anything, downside risks are ratcheting higher sharply.

Haven demand lifts gold

Gold managed to overcome a stronger US Dollar overnight, finally seeing haven-driven demand by investors for gold itself, for the first time in a while. That allowed gold to record a 0.35% gain to $1908.50 an ounce overnight. Asia is trading directionless today, with gold almost unchanged.

The haven-driven demand is set to increase into the weeks end though, as the multiple risks in financial markets seen this week, finally bubble to the top on investor's minds. Gold remains locked in a $1875.00 to $1935.00 an ounce range, but with haven investors returning, the balance of probabilities has shifted to the upside.

With so much event risk on the horizon, culminating with the US elections on November 3rd, we have likely seen the lows in gold for the next month or so. Gold is unlikely to test $1850.00 an ounce again this month. Gold likely to shift into a $1900.00 to $1975.00 an ounce range as the elections draw near.