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Trader thoughts - the long and short of it

You wouldn’t know it given the US volatility index ('VIX') is up 1% at 10.39%, or by looking at the fact gold is only +0.2% or the S&P 500 only down 0.2%, but we have seen an unwind of the carry trade with strong gains in both the JPY and CHF. With very modest signs of risk aversion playing through markets. 

Market data
Source: Bloomberg

USD/JPY is the pair to keep an eye today and into US non-farm payrolls, with the pair eyeing a closing break of Tuesday’s low of ¥109.92, which would suggest a target of the June lows of ¥108.82. One suspects this is going to be largely influenced by the US fixed income market and we can see a good bid into the back-end of the curve and the ten-year treasury testing key support at 2.22%. Keep an eye on the TLT ETF (iShares 20+ year treasury ETF), with price looking ominously like it wants to go higher here and a break of the July highs would be an important development.

We can partly explain the bid in bonds on the WSJ headlines that ‘Special Counsel Mueller empanels Washington grand jury in Russia probe’. As the article explains, using a grand jury provides increased investigative powers in the investigation, such the ability to subpoena documents and seek indictments (if there is evidence of a crime).  It seems to have got a few market participants a tad more nervous, although perhaps not to the extent as Donald Trump Jn. The impact has been limited in US equities, which fits into the view that the equity market doesn’t really have a pulse anyhow, with implied volatility just so low.

If we focus on the funding currencies, we can see key daily reversals (i.e. price trading above Wednesday’s high and trading below the lows) in a number of JPY and CHF crosses. Certainly, GBP/JPY and GBP/CHF fit this bill nicely. I have liked playing both funding currencies together and looked at short CHF/JPY trades and the daily chart looks bearish. I remain of the view there is still downside in this trade.

GBP has also been helped along by the news that there were only two dissenters in the Bank of England (Andy Haldane didn’t join the hike camp, so the split sat at 6-2). However, most importantly the BoE cut wage growth forecasts and now see 3% in 2018 (from 3.5% in May).

The USD more broadly, (if we use the US dollar index), has seen only modest selling, but a large contribution to this is explained by EUR/USD. This has diverged so far from yield spreads that EUR/USD should theoretically be trading closer to $1.1400 even $1.1300. The lack of any real selling seems even more impressive, given the ISM services index fell 3.5 points to 53.9 in July, which despite a continued expansion in the service sector now sits at an 11-month low. Key aspects of the report, such as new orders fell 5.4 points to 55.1, with business activity also falling quite hard. In other data points, Factory orders gained a somewhat above consensus 3% and while it’s early days, the US economy is probably tracking around 2.5% in Q3.

A lot now hinges on US wage data tonight (10:30pm AEST), as part of the monthly payrolls report. Traders shouldn’t even really be concerned by the actual jobs report, unless we see an absolute calamity of a number, say below 100,000 jobs or a 20 basis point rise in the unemployment rate. It’s all about wages here, and that is what the fixed income and rates market are most intently focused on. More specifically, if we can see more than a 30bp increase of wages (month-on-month) then perhaps, just perhaps, the USD can find some love. It would be a big surprise though and the higher probability is we get an uninspiring read here. The fact the market is placing a 40% probability of a hike in December (from the Federal Reserve) still seems fair.

The focus though now turns to the open of the Asian equity markets and as mentioned the USD/JPY will be closely watched in FX land, and may weigh on the Nikkei 225. The AUD will also be a key focal point given we get the Reserve Bank Statement on Monetary Policy at 11:30am AEST. AUD/USD is trading largely unchanged on the session, although caught a bid into $0.7914 with the USD responding to Russia probe headlines. The prospect of a 50-75 basis point aggregate cut to the central banks GDP forecasts over the coming few years seems largely assured, given the comments about 3% growth in the policy statement on Tuesday. However, there is much more to look out for and traders will pour over every word for clues.

The ASX 200, itself, is eyeing an open at 5728, with SPI futures falling six points and capping off what has been another week where the market has respected the trading range. I have been talking about this aspect for a while now. What can take the ASX 200 out of the 5800 to 5650 range? On the earnings front CWN report, after poor numbers from SUN and an uninspiring report (including capital management) from RIO, it would be welcomed to see CWN deliver something a bit more pleasing. Keep an eye for follow through selling on SUN though, as the flows were heavy on the short side yesterday and this could trade into $12.50 soon.

On the commodity side, we have seen a 0.9% gain in spot iron ore, with iron ore futures also moving nicely higher and re-establishing that positive trend – keep trading this from the long side. Oil prices have slipped a touch, with US crude -1.4%, so this could weigh a touch on the sector today.  Gold looks quite attractive for a move higher too here, but again, watch the US fixed income market.

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