The most logical view here is the moves on Friday were clearly just a sizeable covering of USD shorts, from what was one of the biggest net short positions held against the USD for many years. For perspective, we saw a four basis point (bp) move higher in the US 10-year treasury to 2.26% and only a modest 2bp increase in the 10-year ‘real’ (or inflation adjusted) treasury. This resulted in a 2bp increase in the 5-30 treasury curve to 102bp and we end up with a 0.8% rally in the USD index. This was the biggest gain in the USD since 15 December and it shows just how far the elastic band had been pulled. The question then is, will we see follow through buying this week?
For that to materialise we are going to need to hear something from New York Fed President Bill Dudley (who is due to speak at 12:00am AEST Friday), with a read above 1.8% YoY on core CPI (Friday 10:30pm AEST) also needed to promote further covering of USD shorts. To suggest Friday's rally is not simply a correction within a downtrend, that really got traction since Mr. Trump started to focus on the currency, we really need to see a change in interest rate pricing and that means selling in the Fed funds future January contract.
Keep in mind the market hasn’t really budged from the 10bp (or 40%) of hikes priced in through the year for the past seven days. This really needs to move back above 50% to provide a more bullish feel to the USD. Friday’s non-farm payrolls were clearly a good set of numbers, with 209,000 jobs created, hourly wages unchanged at 2.5% and a slight dip in the unemployment rate, despite an increase in participation, but it didn’t move the market's pricing of rate hikes.
US equities have warmed to the solid US data, notably the Dow, which is trending higher in textbook fashion. The S&P 500 has pushed up a modest 0.2%, but indecision has been seen on the daily chart and we still really need to see a break of the recent high of 2484 to bring out the momentum-focused traders. Banks have been working well though and showing signs of leadership again, which could, in theory, suggest a positive open for Aussie banks this morning. There has also been a strong move in European equities and this is where FX has really played a part.
With EUR/USD showing signs of an impending reversal on the weekly chart European markets have flown and keep in mind that 90% of fund flows into European ETF’s (Exchange-Traded Funds) have been currency unhedged this year. This suggests that if the trade-weighted EUR see’s follow through selling this week, then we may see funds look to ramp up hedging of portfolio exposures causing a further leg down in EUR/USD and new life into European equity indices.
The strongest risk-adjusted market and to trade a bullish bias would be the Italian MIB. This has broken out to the highest levels since December, while Italian 10-year bonds trade at the lowest premium relative to German bunds since November.
The wash-up is we see Asia opening on the front foot, while the fact USD/JPY and AUD/USD have opened the new week largely unchanged (from Friday’s close) suggesting S&P 500, US crude and SPI futures should also open without too great a move. There clearly hasn’t been too much in the weekend news flow to cause any real gyrations, with trade relations and politics dominating.
Thus our call for the ASX 200 to open at 5742, clearly in-line with the 24-point higher close in SPI futures. The Nikkei 225 could see a move back above 20,000 this morning, helped to a degree by moves in USD/JPY, although the correlation between the Japanese equity market and USD/JPY has fallen of late, presumably helped by the fact the BoJ is still highly active in pushing ETF’s and cornering the equity market!
As mentioned, banks should find buyers here, although CBA shareholders will want to see a focus away from the negative news flow and into Wednesday’s full-year earnings. Whether the buyers step in today after Fridays 3.9% sell-off is debatable, but I do think the June lows of $78 should hold unless they come out with poor earnings.
We have a positive platform for energy and mining stocks as well, with BHP expected to open 1% higher. US crude closing up 1.1% amid further signs the US rig count has peaked, with the weekly count -1 at 765, which in theory could help price gravitate back into $50. Spot iron ore closed up 1.6%, taking the weekly gain to 7.8%, with Dalian iron ore and steel futures pushing up 2.8% and 1.8% respectively.
Vale’s US-listing closed up 1.5% by way of a guide for FMG and AGO shareholders. Keep an eye on those names that have underperformed due to their sensitivity to AUD/USD. Healthcare springs out here, notably names like CSL and COH, with AUD/USD looking toppy here we may see some better flows in these names.