Watching risk assets in calmer waters

Volatility continues to settle, in the aftermath of comments from St Louis Fed President James Bullard, who suggested the Fed could delay ending QE on October 16.


Since then, other central banks have helped through further easing measures and we now have the VIX 9% below the year’s average. FX and bond market volatility is also more in line with the year’s average. Lower volatility should continue to see risk assets generally bid. However, I would be looking very closely at fading the S&P 500 into the 2078 area and trend resistance drawn from the 21 May high. Market internals are also positive with good market breadth seen as the S&P 500 made a new all-time high.

The S&P 500 could be a sell at 2078

Another interesting way of looking at the market is by the number of stocks trading above the medium-term 50-day moving average. Over the last 18 months, whenever we get around 85% of stocks above this average, the index has hit a ceiling. Currently 78% of stocks are above the 50-day now, so a move to 2078 would probably coincide with the top of the channel and back up my view that funds may take some long exposure off the table.

In the FX market there seems to be growing calls that the USD could undergo profit taking but this doesn’t seem to be materialising just yet. AUD/USD printed a bullish key day reversal on Friday but is being held back from moving above the October low of $0.8642. EUR/USD is stuck in a firm downtrend, despite various short-term fair value models, suggesting price should be closer to $1.2650 right now. Moves to $1.2500/1.2550 look like a good opportunity to reapply shorts in my opinion, with stops above the 40-day moving average and August downtrend at 1.2680.

Perhaps the most interesting pair though is EUR/CHF, which is the closest to the €1.20 floor since the Swiss National Bank (SNB) said it would defend this level back in 2011. Central banks around the world have struggled for years to react to actions from the heavier hitters such as the Fed or BoJ, while others have looked more specifically at internal influences.  However, few of these central banks have lost as much capital or had a harder job than the SNB. ECB member Yves Mersch suggested yesterday that it was ‘theoretically possible’ that the ECB could buy government debt and this then poses  the question - if the ECB do actually achieve a balance sheet in line with levels seen in early 2012 and also start buying government debt, is there any point in defending the 1.20 floor? Surely the market will be bigger than the central bank here.

What will the SNB do?

Right now Swiss two-year bonds are negative 17 basis points, while it has the flattest yield curve in the developed market. One can also look at the OECD’s purchasing parity model and see the CHF is 30% over valued, yet EUR/CHF cannot catch a bid. It will be interesting to see how the SNB react as 47% of its FX reserves are already in EUR’s and clearly they won’t want to sit there and support the 1.20 for too long.

In Asia today, there has been some focus on the APEC summit and certainly much attention on the Xi/Abe meeting. Clearly, there is much water that needs to flow under the bridge before we see smiles and back pats, but agreement starts with dialogue and that seems to be happening. Perhaps the bigger issue though is the developing  relationship for Russia Gazprom to supply China with its gas. Apart from that, markets have found little to inspire so far, with the China and Hong Kong markets still finding buyers, ahead of what will be better institutional flow to both markets.

The ASX 200 has fallen modestly at an index level and the market seems to be fairly comfortable in its new found 5550 to 5480 range. Good flows have continued in the uranium space, although take a name like Paladin and traders have been selling into the 40c level, with volumes falling a touch from yesterday. We’ve seen good buying in Fortsecue Metals on moves to $3.01, with traders speculating the 3 handle will hold for now. Today’s iron ore forecast  from Citi for $65 in 2015 has been widely talked about and this is about as bearish a call as you will see as it stands, so given consensus is closer to $85 it suggests others could follow. This invariably means EPS amendments.

Europe looks set for a flat open, with some direction being lost due to the US bond market being closed for Veterans Day. Data is on the light side with US NFIB small business optimism the main release, so it promises to be quiet day all round.

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