Trader thoughts - the long and short of it

Equity markets have seen limited moves, with small selling in European indices (the DAX fell 0.8%). In the US, the S&P 500 may have traded somewhat lower and into 2736, but the buyers have defended the 5-day moving average at 2738. However, with an hour to go the index is lower by 0.2% and eyeing its first negative close of the year.

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Source: Bloomberg

Implied volatility has remained largely unchanged, with the US volatility index (or “VIX”) oscillating around the 10% mark  and giving no indications that we are going to see a marked pick-up in S&P 500 moves over the coming 30-days. All is well, all is calm, as is the case in the Dow Jones index, which also traded below Tuesday's session low (and the 5-day average), but there again the bulls are defending the lows with some vigour. Sector-wise, we can see decent selling in the REITS, which is what we saw in Australia yesterday, and shouldn’t surprise given one of the big debates is whether we are to see a bear market in fixed income. Utilities and staples have also underperformed, as has tech and tech is certainly a space worth watching, because if bond yields do break 2.63% then the S&P 500 may start to lose its 2017 leadership group.

US financials are working once again and the XLF ETF (US financial sector ETF) is gaining a further 0.8% and is trending higher beautifully. We will need to see the US banks produce good numbers this week and any stock rallying into earnings like this it often suggests expectations are elevated and the market needs new fuel to feed the beast. That said, financials are primarily being used as a vehicle to express reflation and bond market moves, just as us utilities or REITS are, while in Australia one would also look at shorting stocks such as SYD as a play on rising bond yields. I happy to stay long XLF ETF, although I am cognisent of the unfolding event risk in the coming few days.

The risks are also prevalent in the upcoming economic data, where the bond market will once again be the central figure, as will subsequent USD moves. Taking a step back we can see small selling across the US fixed income curve, with the US 10-year Treasury sitting at 2.55%, initially helped higher by comments Fed member Robert Kaplan, who detailed that inflation pressure were building and that three hikes this year were warranted. Worrying markets more prominently were comments from Chinese officials, who have been reported as saying they view Treasuries as less attractive. This report is also weighed on the USD, where USD/JPY traded down to ¥111.26, which in turn should weigh on the Nikkei 225 on open. Keep in mind China would struggle to recycle much of their US reserves and assets into other markets and the comments should be seen as purely political and a warning signal to Trump, that should he place trade sanctions on China then they could respond with financial means.

Selling in fixed income was contained and yields held back from moving past 2.6% by a strong 10-year Treasury auction, with the bid-to-cover ratio up at 2.69x, relative to 2.37x seen in the prior auction. There is also some hesitation to really start shorting longer-term bonds given in the session ahead (00:30 aedt) we get producer price inflation and tomorrow, the consumer inflation report. Clearly, if this data comes out lower than expected the market will have to lower its implied level of Fed tightening, although this is more likely to affect the 2- and 5-year part of the curve. Obviously hot numbers here, with a PPI print say above 2.7% and a core CPI print of 1.9% (expectations are for 1.7%) and it would feed into further selling US treasuries (and buying of USDs) and play nicely into market calls, with the likes of Bill Gross detailing overnight that “we’ve gone short bonds in unconstrained fund”, although to be fair he is only expecting a move into 2.70% to 2.8%; so hardly a tantrum.

We will also be keeping a close eye on the AUD today, with November retail sales due at 11:30 aedt and expectations for +0.4% month-on-month. The market seems happy to fade rallies in AUD/USD at present, but the pair also lacks a downside catalyst at present and the bears really need a break of $0.7807 (this week’s low) to really wrestle back control. If we focus on the four-hour chart, we can see fairly messy price action and no clear trend at all, which makes life a little more problematic. That said, all eyes fall on retail sales and the two US inflationary reads, not to mention if there are any moves in the CNY, as the AUD is heavily influenced by the Chinese currency, so any selling in the CNY (onshore yuan) or CNH (yuan traded in Hong Kong) could inspire greater AUD downside.

So with the S&P 500 eyeing its first negative close of 2018, we have seen a heavy session for Aussie SPI futures and we can see the index sat at 6050 at 16:10 aedt (the close of the ASX 200) and now resides at 6030, some 20-points lower. Our ASX 200 opening call subsequently suggests an open into 6078 and should build on the fairly bearish price action we saw on the market yesterday. Banks will be at the heart of the move and specifically CBA, which printed a bearish outside day reversal, with price trading above Tuesdays high and closing firmly below the low, while also filling the gap seen on the Monday open at $81.62. A downgrade on CBA from a respected banking analyst to hold clearly aided the selling, so it will interesting if further falls are seen here on open.

Elsewhere, we can see spot iron ore a touch weaker at $78.16 (-0.2%), while gold stocks should finds buyers again with spot gold gaining 0.4%. Oil has seen further gains (+1%) and sits up at $63.42 with the Department of Energy weekly inventory report keeping the wind to oil bulls backs with crude inventories declining 4.95 million barrels and probably also helped by headlines that “US total petroleum stocks fall to the lowest since June 2015”. A tougher day at the office for stock traders, but it doesn’t feel as though anyone is going to rush for the exit either!

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