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More focus has been placed on the idea that the Fed waited until the markets had priced in an over 70% probability of a hike before guiding rates higher in 1999 and 2004. So the fact the 32% implied probability currently priced by the Fed Funds future (63% for the December meeting) has seen equities attracting strong follow-through buying. We have even seen strong buying of emerging market currencies, with the Russian ruble the standout putting on over 2%, helped by another huge move in oil.
Buying in the Brazilian real, Turkish lira and South African rand suggests that while a rally in commodities has been in play, this is a market putting the balance of probability in on a no-move from the Fed. AUD/USD has broken its May downtrend and has scope to push into the $0.7250, potentially $0.7300 region. But of course this is Fed dependant.
Instead of long AUD/USD trades, my preference (in expressing an AUD bullish bias) is long AUD/CHF trades. The Swiss National Bank (SNB) meet today (5.30pm AEST); while no change is expected, I feel there are growing risks that the SNB will do more to weaken the ‘overvalued’ CHF.
I can’t help but think there is a view that something more substantial is at play here than just potential Fed inaction and I feel that market participants are looking at a global response driven by central banks. The European Central Banks (ECB) balance sheet has increased 30% since September 2014 and has another 20% upside until it reaches the 2012 highs. We have heard a number of ECB members talking up the prospect of additional asset purchases lately and although quantitative easing (QE) in Europe hasn’t been hugely successful in driving up inflation expectations, we saw huge outperformance from European equities between January and May. I like the idea of long European and short US equities (in exchange-traded funds land, one can also look at long HEDJ/short SPY).
There is also a growing belief that Japan will do more on a fiscal level, but also a view that the Bank of Japan will increase its asset purchase program at the 30 October meeting. The Reserve Bank of Australia seems happy enough, but a failure from the Fed to hike rate and weakness in the USD could see them act – the question is, at what level does greater concern play into their statements? Like the ECB in theory, the biggest way the RBA can assist is to help engineer a lower exchange rate.
So all-in-all, the lead from the S&P 500 is positive and not only has the index seen a bullish break out of the recent consolidation (triangle) pattern, breadth has been positive as well. The index has now recouped over 50% of the 11.2% correction seen in August and momentum is positive. Of course, that could easily change tonight, but we need to be cognisant that this it is not just about whether the Fed hikes the funds rate or not, traders need to focus on the bank’s future economic projections and so-called ‘dots plot’ – or, where the Fed Funds rate is at a set point in time.
Our ASX 200 opening call (at the time of writing) is 5150 (+1%) adding to yesterday’s rally. Japan is also likely to overlook its credit rating downgrade from S&P late yesterday, also adding over 1%. China was a pillar of strength, yet once again, it was the last hour that saw crazy buying with the CSI 300 rallying 5.5% from 3.45pm AEST. There has been talk of more information around SEO reforms and an improved regime for dealing with margin financing helping. When you see small cap index (ChiNext) put on 7%, you know mainland traders are feeling buoyant. It has to be said that volumes were light, with the Shanghai Composite 28% below the 30-day average.
The local energy sector should do nicely today given WTI oil is 5% higher from yesterday’s 4.00pm AEST close, while BHP is expected to open 3% higher. Gold is also 1.3% higher than yesterday’s close, suggesting this space will do well too.
The leads are strong and our call suggests broad-based gains in domestic equities, but given the magnitude of tonight’s event it wouldn’t be a huge surprise if a number of the short-term traders lighten up on positioning into the afternoon. I’m especially interested in USD/JPY price action as this will give us insight into how Japanese traders are positioning for tonight’s event risk.
It promises to be a strange 24 hours, where the first move might not be the right move. It’s hard to recall an event given so much attention from market players – the implications are far reaching and history provides absolutely no guide. Expect the unexpected, expect to be surprised. Keep your friends close, but your stops closer!