Trader thoughts - the long and short of it

Wall Street posts its first retreat in five trading days ahead of the G-7: Yet again speculative enthusiasm in the US capital markets are struggling immediately after posting an impressive technical move. On the back of Wednesday’s charge for the S&P 500 and Dow – the latter making it to three month highs on the 1.4 percent scramble – we spent a session with the bulls spinning their wheels. The blue-chip index managed to earn itself a bullish gap and modest further gain into the day’s close. Meanwhile, the S&P 500 posted a modest lost for the day and the charge-leading Nasdaq broke a strength of consecutive record highs with the largest single-day loss since May 15. The economic data on the day played little role in the struggle as the US household net wealth rose by $1.0 trillion to surpass the $100 trillion mark through the first quarter – helped generously by a rise in home values. Uncertainty was more of a global setting which the US markets were happy to conform to ahead of the Friday-Saturday G-7 Summit in Canada. Given the press by the US for tariffs on key trade partners and the retaliation implemented and threatened since, the tone is very likely to dim the outlook or global economic activity.  The question for most investors is how aggressive will the members of this group be and to what extent is the fallout discounted?

G7 pre-positioning may register as market-wide risk aversion: A lull in top-tier economic data flow through the end of the trading week turns the spotlight on a G7 leaders’ summit getting underway in Quebec. The meeting will mark a showdown between US President Trump and his counterparts after he opted to let lapse aluminum and steel tariff exemptions for Canada and the European Union. The markets were relatively sanguine about the spat when it emerged last week. The prevailing view seemed to be that Mr Trump’s aggressive posture is little more than smoke and mirrors. Behind fiery rhetoric, investors saw a desire to make a deal that the cocksure President can then claim as a victory for his brand of swaggering diplomacy. That may well be so, but other world leaders might not be willing to appear submissive even if they extract a decent bargain in exchange. Instead, they may use the opportunity for broad consensus to single out the US and push back forcefully. Weighing up such scenarios (and no doubt others), traders might conclude that the meeting carries with it enough uncertainty to be worried. That could translate into preemptive de-risking, bidding up havens like the US dollar, yen and Treasury bonds while shares and commodity bloc currencies decline.

Federal Reserve due for a rate hike next week: It is difficult to the project a clear path for the US Dollar ahead of the G-7 gathering as markets start to show an appreciation for the blowback that the country and currency could face from a collective retaliation to its tariffs. That uncertainty will carry the Greenback unsteadily into the weekend. Come Monday, some speculative assumptions may be formed; but in the absence of an explicit fundamental drive, conflict will arise in the anticipation for Wednesday’s FOMC rate decision. The US central bank is expected to hike its benchmark rate range by 25 basis points for the second move this year to keep pace to the central bank’s official forecasts for three hikes through 2018. That said, we have seen the market’s conviction for this unmatched pace of tightening amongst its peers soften over the past weeks with data and trade wars cooling the hawkish charge. We will see whether the Fed shares the market’s fears through the accompanying Summary of Economic Projects (SEP) as well as Fed Chair Jerome Powell’s press conference. It is difficult to materially ramp up the Dollar’s standing relative to its counterparts as few others have even taken a definitive move to tighten. Yet, it is relatively easy to disappoint Fed Funds futures still projecting an implied yield of 2.16 through year’s end – just off its decade high set in mid-May. 

ECB is the biggest central bank event scheduled for an active monetary policy week: There are three major central banks due to announce monetary policy next week. On Wednesday, we have the Fed and Friday, the Bank of Japan will weigh in. Technically speaking, the US and Japanese groups are on the poles of monetary policy for the developed world; but that extreme position also reduces their short-term market impact. Moving to such a hawkish or dovish extreme does not happen overnight, and the anticipation that follows that drive can significantly discount all but a systemic reversal in course. In contrast, the European Central Bank (ECB) is seen as a central bank in flux and thereby open to the whiles of speculation. While still exceptionally dovish with rates that are essentially zero and the stimulus program still adding assets to the balance sheet, we have seen speculation for an eventual normalization earn enormous moves in the Euro – particularly through 2017. We have seen the expectations grow extreme once again leading into the June meeting. A range of the bank’s members have voiced hawkish views in the past few weeks while the inflation and growth data has improved. This also happens to be one the ‘quarterly’ meetings from the ECB where more detail is expected. If the ECB announces a clear taper along with more details to definitively walk out of zero rates, it can spur FX speculation. That said, how strong is the pull for risk trends amid such global financial uncertainty to reach for such a small and distant yield.

Australian dollar finally moves into a day without key event risk: This week was a remarkably volatile one for the Australian dollar. Each day has resulted in abrupt reversals with productive subsequent movement – all the while preventing any definitive trends from seeding opportunities for traders. The initial bullish break higher on Monday was charged by corporate profit along with a slew of other indicators. Tuesday reversed sharply after the RBA failed to join the BoC by spelling out a clear hawkish lean. Wednesday rallied once again with 1Q GDP doubling its previous quarter’s pace. Through this past session, the April trade balance disappointed with the surplus contracting by over A$750 mln to print at  A$977 mln favorable gap. There are no high profile data points due for release Friday from the Aussie calendar, but China’s May trade balance, the G-7 meeting and general sensitivity to volatile risk trends should keep FX traders on guard.

Crude oil up as markets mull OPEC+ output increase prospects: Crude oil prices enjoyed the largest upswing in a week as traders weighed up supply increase prospects ahead of an OPEC meeting later this month. Output caps imposed as part of a cartel-led scheme to drain a global supply glut may be relaxed, according to recent comments from Saudi Arabia and Russia. That has pushed prices sharply lower in recent weeks, but traders now seem concerned that the two powerhouse producers may be met with resistance from other top suppliers. Iraq’s oil minister Jabbar al-Luaibi told Reuters that an output increase isn’t on the table at June’s gathering in Vienna. Meanwhile, gold prices continued to struggle for lasting direction as the US Dollar and Treasury bond yields diverge, making for conflicting cues.

Australian stocks may turn lower after another commodities-fueled rally: Energy and materials names continued to power Australian shares higher Thursday, pushing the benchmark S&P/ASX 200 index to a two-week high. Stronger commodity prices remain the inspiration, with brisk gain of over 2 percent in crude oil leading the way this time around. Industrial metals put in a mixed performance following the prior day’s copper-led advance but aluminum stood out, adding nearly 1.5 percent. A rebound in bank stocks also helped this time around, with the overweight sector adding 0.3 percent after an index tracking its performance hit the lowest level since November 2016 in the prior session. Looking ahead, a pullback may be in the cards as investors turn defensive ahead of the G7 leaders’ summit. Indeed, SPI futures are pointing lower ahead of the opening bell in Sydney.

Market’s Data:

SPI futures moved 32.19 or 0.53% to 6057.29.

AUD/USD moved -0.0046 or -0.6% to 0.7621.

On Wall Street: Dow Jones 0.38%, S&P 500 -0.07%, Nasdaq -0.7%.

In New York: BHP -0.37%, Rio -1.7%.

In Europe: Stoxx 50 -0.03%, FTSE 100 -0.1%, CAC 40 -0.17%, DAX 30 -0.15%.

Spot Gold moved 0.04% to US$1296.89 an ounce.

Brent Crude moved 2.51% to US$77.25 a barrel.

US Crude Oil moved 1.82% to US$65.91 a barrel.

Iron Ore moved -1.06% to CNY467.5 a tonne.

LME Aluminum moved 1.43% to US$2345 a tonne.

LME Copper moved 1.7% to US$7220 a tonne.

10-Year Bond Yield: US 2.93%, Germany 0.48%, Australia 2.84%.

 

Written by: Ilya Spivak, Currency Strategist and John Kicklighter, Chief Strategist with DailyFX