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Trader thoughts - the long and short of it

A subdued European and US session in terms of market moves, although what we have seen for Asia is modestly positive and provides a somewhat shakey platform by which the equity bulls can build on.

Market data
Source: Bloomberg

The S&P 500 has closed unchanged on the day (or up 0.09%), trading in an extremely tight range. Interestingly, if you look at the weekly chart of the S&P 500 we can see five weeks where the market has effectively gone sideways, with both indecision (from the bulls and bears) and where the trading ranges have been basically non-existent.

It feels like that changes soon, but as always waiting, for the market to push you into a position is the higher probability trade and that means becoming somewhat more cautious on a weekly close below 2402 or on a weekly close through the recent highs of 2454. The playbook on the S&P 500 has been drawn and if I had to choose, then an upside break would be my preference.

An absence of any top tier news has seen market participants continue to pre-position portfolios ahead of the Janet Yellen’s two-day Congressional hearing and Friday's US core CPI. FX traders out there have been focused quite heavily on the CAD given tomorrow's Bank of Canada (BoC) decision, in which the market is pricing in an almost done deal they hike by 25 basis points.

CAD/JPY has been my vehicle of choice for expressing a higher CAD, although AUD/CAD has broken below the 2016 uptrend and has retested and rejected the former trend at C$0.9826. USD/CAD has been where the clients have focused their attention, but given this elevated pricing, the BoC is going to not only need to raise rates here, but also justify the 63 basis points of hikes priced into markets through to May 2018 and the rampant relative steepening of the Canadian yield curve. The risk manager in me suggests cutting back on CAD exposures here. I may be wrong, but if the BoC doesn't hike then CAD gets taken to the woodshed and chopped up.

As mentioned US earnings really ramp up this week with just under 30% of the financial sector's market cap reporting, with names like JP Morgan, Citi and Wells Fargo getting the attention. As mentioned yesterday, the global equity markets are moving from one inspired by liquidity into one which is more thematic of what textbooks would have taught us many years ago and one where valuation, earnings growth and return on equity matter far more. The idea, however, that liquidity is going to suddenly dry up and central banks are going to be happy with asset prices going into free fall or real yields rising so rapidly that in both scenarios it causes a shock to financial conditions seems misplaced. This makes little sense, as it would obviously impact inflation and there would be a negative feedback loop into the real economy. A smooth transition is needed and that is what I expect into Q4 and into 2018.

With this view that US banks are in play this week, I would be keeping a sharp eye on the XLF and KBE ETF, both exchange-traded funds (ETFs) representative of the US financial or banking sector. We’ve seen little in the way of moves today, and perhaps that is also a function of limited moves in the US fixed income markets. However, if I look at the KBE ETF (SPDR Bank ETF) there is a clear double top in play, so we need to hear the narrative from the likes of JP Morgan, Citi and Wells Fargo to contribute to a view that the financial sector can beat the 6% EPS growth the consensus expect. As a trade, happy to be flat (position wise), with a view to pulling the trigger on long positions should we see a daily close through $44.74 (on the XLF ETF).

We haven’t seen much of a move in FX land, with EUR/USDtrading a meagre 37 pip range and the bulls just need to see some life back in the selling of German bunds to push the pair through $1.1444. Happy to be long on this development for $1.1500+. AUD/USD is holding the 76 handle, but with spot iron ore gaining 2% to $64.05 a tonne. Dalian iron ore futures looking supported as well, the bears will have to wait for Yellen, Brainard and CPI to do the heavy lifting this week. Happy to be short AUD/USD on a break below $0.7571 and adding on a move through $0.7535.

Some signs of life have been seen in the commodity complex, and this suggests paying close attention to energy and materials sectors and specifically gold stocks in Australia. SPI futures are up a touch and with fair value suggestive of the ASX 200 opening around 5728. We have seen a Brent, US crude and gold close up modestly, but importantly for me, it was looking like we could have seen the selling seen in late Asia accelerate through European and US trade again. It did not, although as mentioned, the lack of drive in fixed income and the USD was a clear contributing factor.

Gold is interesting, specifically because the world has built up a sizeable bearish exposure and if positioning is a key input in trading, then a less hawkish approach from Yellen or a US core CPI print (on Friday) say below 1.6%, resulting in real yields going lower and the gold bears will be forced to cover. Take a look at the GLD ETF (SPDR Gold shares ETF), a gain of around 20 basis points is hardly a big deal but signs on the daily that perhaps better times could be ahead, or at least stability after a shocker since 7 June.

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