Selective perception of risk

A robust 44% rebound in US pending home sales has been the major driver of gains in US equities on Monday. The data wiped out the Covid-10 concerns, pushing the Dow 2.32% up. The SP500 gained 1.47% as Nasdaq ended the session 1.20% higher.

The Federal Reserve (Fed) Chair Jerome Powell sounded optimistic regarding the post Covid rebound in the US economy, but warned that the normalization may be happening too soon too fast and there is ‘extraordinary uncertainty’ regarding the virus advance, as the recent peak in new cases pushed some businesses to reconsider their decision to resume activity in the US. Powell’s optimistic but cautious stance was heard as a sign of empathy from investors, reassuring them that the Fed would continue giving the necessary support to the market. So far, the massive central bank intervention has helped reduce the tail risks in DM credit and rate markets notably, but the credit spreads remain at historically high levels and need to be monitored with caution.

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Facebook recovered more than 2% although more leading names announced to halt advertisement on its social media platform, hinting that the company will be facing a sharp decline in its ad revenues from the third quarter. The FB share price retraced to December levels, and is expected to diverge negatively from the rest of the FAANG stocks on the back of rising idiosyncratic risks to its major revenue pillar.

Asian stock markets followed up on timid European and solid US advance. The Nikkei gained 1.79% and the ASX 200 rebounded 1.68% as the Reserve Bank of Australia’s (RBA) Debelle said that the borrowing costs will remain low until the full employment and 2-3% inflation target are reached, and more measures could be deployed if necessary.

Stocks in Hong Kong edged 0.89% higher despite news that the US suspended the city’s special status warning that the new national security law increases risks of doing business with Hong Kong, including the technology protection and other sensitive issues.

But more importantly, the controversies over the Hong Kong’s new national security law has a deteriorating effect on the trade relations between the US and China, as the world economy struggles with a devastating economic slowdown due to the coronavirus shock on both demand and supply side. While investors keep the US-China frictions on the back of their minds, the risks are not being reflected by the pricing in equities.

For now, investors maintain their focus on positive news.

In this respect, the Chinese manufacturing and services PMI expanded quicker than expectations in June according to the official data. The factory activity reached the strongest level since March, hinting that the Chinese economy is back on track despite interruption in some businesses due to a renewed lockdown to contain the second wave contamination. This is good news for the rest of the world: the second wave containment measures didn’t have a material impact on the fast-reacting PMI figures.

FTSE (+0.13%) and DAX futures (+0.48%) point at a marginally positive start on Tuesday.

But firm demand in US treasuries and gold hint at a steady grip on safe assets.

Gold remains bid near the $1770 per oz and the reluctance to take profit at these levels hint at a growing possibility of an advance to $1800. But solid offers should come in play above this level if the risk sentiment remains solid on investors’ selective perception of risk regarding the news flow.

The US dollar is steady. The EURUSD trades rangebound within the 1.12/1.13 zone.

The economic activity in the UK contracted faster than expected in the first quarter. The British GDP fell 2.2% q-o-q versus a 2% contraction penciled in by analysts. But the latter disappointment is dwarfed compared what is to be announced in the second quarter: a slump in activity that will probably range near 30%. This partly explains the market’s muted reaction to the Q1 data after the release.

Cable slipped to 1.2250 on Monday. The 100-day moving average (1.2390) now acts as a trigger for top sellers as the face-to-face Brexit negotiations this week may be just another flop regarding a satisfactory exit deal for the UK. But the downside potential should remain limited by the extended deadline to October, which helps maintaining hope that a progress could still be made later this summer.

WTI remains bid near $37 per barrel, but solid offers should cap the upside potential as investors scale back their post-Covid recovery expectations. A consensus of analyst expectations points at 900’000-barrel contraction in US oil inventories last week. The EIA data is due on Wednesday, but the API figure released earlier could provide a stronger case for a move above the $40 handle if the data comes in parallel to expectations.