Anchoring rates to the floor

No equity slide is ever linear, nor is a market rally, and I see the development from the central bank communication this week as a chance to break the eight-week down trend in global markets.

Source: Bloomberg

My reasoning is very simple and I believe we are only in for a few weeks in the green, but I see a market pop all the same.

First off, there is no getting past what was said in the Fed minutes overnight (I will also address what the RBA is alluding to later). The minutes were a very clear reminder that the ‘considerable period’ of time is going nowhere in the interim and that the Fed was massaging market expectations as best it could.

Bottom line from the minutes; nothing in the past month has changed, everything is data dependent, and the Fed is acutely aware that it faces ‘communication challenges’ when it begins to change its outlook. This ‘communication challenge’ has been played out in the last eight weeks considering the varying opinions from regional presidents over the past few months, which has led to speculation of earlier-than-expected rate rises.

However, the majority still see slack in the employment market, the Fed’s growth and inflation outlooks were downgraded and the September minutes also gave the distinct impression that nothing will change come the October meeting either.

In short, US, European, Japanese and Australian interest rates are anchored to their respective record low levels for a ‘considerable period’.

I also see a very interesting global theme creeping into central bank thinking; global growth seems to be precarious and the domestic implications of this are ‘unknown’. The RBA alluded to this and the Fed has also made mention of this issue, particularly the situation in Europe.

The rapid decline in growth and fears around deflation in the eurozone have helped EUR/USD to fall by 10% since July and this is estimated to keep falling over the coming year with the lowest estimate for the pair at $0.95 (a further 22% decline).

This fall is replicated across the G10; the USD appreciation will cause a tightening effect on corporate America. Slowing corporate growth will gently apply a handbrake to earnings growth and in turn economic growth. US earning season unofficially began last night, with Alcoa smashing estimates; however it’s US banks plus the likes of technology stocks that have mass exposure to currencies that need to be watched in Q3 and Q4.   

However, taking a step back and looking at the markets rationally, the S&P on a daily and weekly chart is still holding onto the three-year up channel, and the DAX is now back in multi-month buying zone. The ASX looks like it has found strong support around 5210 to 5220; the 7.7% pullback of the past seven weeks is likely to slow and see some retracement.

Ahead of the Australian open

This week’s trading has very clearly shown that the yield trade is in investors’ crosshairs. Tuesday’s trade in the banks was the clearest sign of the concern investors have around rate rises and the relation it has with the yield trade – any sign of a rise will clearly see it unwind.

However, as I also stated yesterday if rates were to move (and we don’t believe they will within the next nine months), a cut is a more likely scenario.  This would actually signal yield trades to increase, and I would also say that the current slide in the banks has a yield floor around 7% to 7.5%.

With the Fed now trying to gently move the market away from the possibility of rate rises in the interim, this scenario is more likely to come into effect. Don’t get me wrong, I am bearish on the banks medium-term due to the exposure they have to rate rises, however this is clearly a way off.

We are in for some bank buying in the coming week and with ANZ, NAB and WBC offering you three dividends in 13 months and the normal rally into their results (buy the rumour sell the fact).  

We’re currently calling the ASX 200 up 50 points to 5291, which will see it recouping all of the losses from yesterday and put it back within touching distance of finishing the week in the green too. Last week the market snapped out of a five-week losing streak; can it maintain some form of consolidation? We shall see tomorrow. 

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