Risk Returns As 'Powell Put' Back In Play

With stocks and bond yields in a funk as of late, Fed's Chair Powell speech managed to strike the right tone for the market to buy back risk as the case for lower rates builds up unless Trump walks back his threats and reverts the tariffs situation with China and Mexico.

The Daily Edge is authored by Ivan Delgado, Market Insights Commentator at Global Prime. The purpose of this content is to provide an assessment of the market conditions. The report takes an in-depth look of market dynamics, factoring in fundamentals, technicals & inter-market. Feel free to follow Ivan on Twitter & Youtube. Make sure you join our discord room if you'd like to interact with our team. Also, find out why Global Prime is the highest rated broker at Forex Peace Army.

Quick Take

With stocks and bond yields in a funk as of late, Fed's Chair Powell speech managed to strike the right tone for the market to buy back risk as the case for lower rates builds up unless Trump walks back his threats and reverts the tariffs situation with China and Mexico. If that doesn't happen, Powell hinted that the path of least resistance for the Fed is likely to be a resumption of the accommodative policies, which should be characterized as a historical moment since the last time that happened was during the GFC period. If this century acts as our guidance, whenever the Fed begins a new easing cycle, it tends to last for years (Tech bubble, GFC, Trade wars?).

source: Macrotrends

With 62% priced in for the July FOMC meeting, the market is now considering lower rates as the base scenario. From a timing perspective, it makes sense as the gathering of Fed members will come on the heels of the G20 summit (clarity expected), where slim hopes are placed for the US and China to try to reconcile the current standoff on trade negotiations, even if the level of the Yuan as a true barometer keeps telegraphing the market is not convinced in any capacity. Nonetheless, the microflows have shifted in favor of commodity currencies as risk appetite returns, with the Yen and the US Dollar, driven by RORO flows and a dovish Fed respectively, underperform. One of the highlights from the last 24h includes the AUD, relentlessly bought as the market interpreted the RBA rate cut as a rather neutral one, subject to labor conditions. 

Narratives In Financial Markets

* The Information is gathered after scanning top publications including the FT, WSJ, Reuters, Bloomberg, ForexLive, Institutional Bank Research reports.

  • Fed's Powell speech leaves the door wide open for lower rates in the US subject to the trade situation with China escalating. Powell said the Fed will 'act as appropriate' to sustain expansion. In his speech, Powell said that the Fed is closely monitoring the impact of trade developments. The next question to be raised is the level of patience by the Fed before it decides to make a move on rates. If the G20 summit by month end yields no progress, lower rates in July may follow as insurance to support growth.
  • Expectations for a meaningful US and China meeting at the G20, if the latest headlines are any indication, are not looking that promising. US Treasury Secretary Mnuchin is set to meet a Chinese delegation but there is no confirmation of any bilateral meeting taking place. There is a lot to let go by both sides, and none willing to do so.
  • Risk conditions improved after Powell clearly raised the prospects of an easing cycle by the Fed (events dependent), while headlines via Mexican President Lopez-Obrador further boosted the rebound in risk after reiterating that he has a high degree of confidence about making a trade deal with the US.
  • In a speech after the decision to cut the Australian benchmark rate by 25bp, RBA's Governor Lowe said that is not unreasonable to expect a lower cash rate from here, adding that a weaker US dollar would complicate the rate outlook. Lowe also warned that even if not anticipating getting to low rates seen in UK or Canada, the capacity to do so is there. Lowe said that he sees no reason to change the inflation target, adding that If unemployment rate can get to 4.5%, inflation will rise (a big assumption).
  • The Reserve Bank of Australia cut its interest rate by 25 bp to 1.25% from 1.50%. The RBA opted for a neutral cut, with further cuts conditions to conditions in the labor market. The statement read that “the Board will continue to monitor developments in the labor market closely and adjust monetary policy to support sustainable growth in the economy and the achievement of the inflation target over time.” One can compare all the new remarks in the following link, courtesy of Anthony Barton from MNI.
  • Australia’s retail sales for April came at -0.1% m/m vs 0.2% expected, which is yet again another marked disappointment and reinforces the notion that the RBA is not done cutting rates as lower consumer spending is directly related to housing’s disposable income (jobs).
  • Eurozone May preliminary CPI came slightly weaker than expected at +1.2% vs +1.3% y/y, with Economist attributing the decline to the fading effects of the Easter boost. Broadly capped inflation alongside the dire outlook on global growth are pre-conditions to keep the ECB with a dovish stance, ready to stimulate economic activity and bank liquidity as needed.
  • China’s foreign ministry said it is clear that every setback in trade talks is due to US breaking consensus, adding that the US argument on trade white paper makes no sense. The disagreements and blame game have become so ample one can’t picture a deal anytime soon.
  • In a sign that China aims to promote negative US propaganda in retaliation for the collapse in trade talks, the country has issued warnings against travel to the US due to gun violence, robberies and other threats such as possible harassment by US law enforcement.
  • The EU is set to propose the commencement of discipline procedures on the Italian debt, which may cost the Italians a $4B fine. If the heads of EU member states approve the measure, and it gets ratified by finance ministers, the risk of the hefty fine is there. While it has not had an impact on the euro pricing, watch for negative headlines to start playing a greater role.
  • In his visit to the UK, Trump said the US is committed to a phenomenal trade deal with UK. Trump also touched on Mexico, noting that the tariffs are likely to be applied, a scenario that Republicans in Congress are seriously considering to put to a vote in order to veto.
  • Today’s Australian GDP data for Q1 came at a paltry 0.4% q/q vs 0.5% expected, which marks the lowest rate of growth in more than 5 year. Looking at the details, while domestic demand grew by a timid 0.1%, consumer spending annual growth continues to be a major drag as it stood at the lowest levels since mid-2013. On the bright side, terms of trade improved
  • China May Caixin services PMI disappointed at 52.7 vs 54.5 last. According to the report, manufacturing production has broadly stabilized, inflation pressures remain subdued while business confidence remains on a slump.

Recent Economic Indicators & Events Ahead

Source: Forexfactory

RORO (Risk On, Risk Off Conditions)

There has been a marked improvement in risk sentiment as Fed’s Powell sends the right message for the market to anticipate lower interest rates down the road conditioned to trade and inflation. Adding to the ebullient mood in equities and bonds, Mexican President’s optimistic remarks alongside a potential vote by Republicans to veto Trump’s tariffs on Mexico, have further soothed the nerves. Equities, driven by expectations of an easing cycle by the Fed, outperformed the advancement in yields, which remain much more subdued on the prospects of poor growth and lower Fed rates. The recovery in risk has fed through the Japanese Yen market by weakening the currency, which joins the US Dollar in its micro bearish flows as reflected by the slope of the 25HMA. At this stage, regardless of the risk regime, the market is in no mood to amass USDs as the yield advantage narrows. By analyzing junk bonds and the VIX, a reinforcement of the risk sentiment is provided, even if such temporary benign environment has to be reconciled, as Chinese assets indicate, with depressed expectations of trade talk progress between the US and China at the G20 summit this month. Overall, the micro dynamics have turned more positive as Powell provides the Put needed for equities, while fundamentally wise, deterioration in global economic data, including the US, paired with no end in sight anytime soon on the US-China trade impasse, create clear headwinds to sustain the risk swing.

Latest Key Developments In FX (Technicals, Fundamentals, Intermarket)

EUR/USD: Single Distribution Within Bullish Context

GBP/USD: Compression At Elevated Levels

AUD/USD: Bullish Stepping Formation With Volume, Value Aiding

USD/JPY: Consolidation At Trend Lows, Intermarket Flows Cap Overextensions

Important Footnotes

  • Risk model: The fact that financial markets have become so intertwined and dynamic makes it essential to stay constantly in tune with market conditions and adapt to new environments. This prop model will assist you to gauge the context that you are trading so that you can significantly reduce the downside risks. To understand the principles applied in the assessment of this model, refer to the tutorial How to Unpack Risk Sentiment Profiles
  • Cycles: Markets evolve in cycles followed by a period of distribution and/or accumulation. To understand the principles applied in the assessment of cycles, refer to the tutorial How To Read Market Structures In Forex
  • POC: It refers to the point of control. It represents the areas of most interest by trading volume and should act as walls of bids/offers that may result in price reversals. The volume profile analysis tracks trading activity over a specified time period at specified price levels. The study reveals the constant evolution of the market auction process. If you wish to find out more about the importance of the POC, refer to the tutorial How to Read Volume Profile Structures
  • Tick Volume: Price updates activity provides great insights into the actual buy or sell-side commitment to be engaged into a specific directional movement. Studies validate that price updates (tick volume) are highly correlated to actual traded volume, with the correlation being very high, when looking at hourly data. If you wish to find out more about the importance tick volume, refer to the tutorial on Why Is Tick Volume Important To Monitor?
  • Horizontal Support/Resistance: Unlike levels of dynamic support or resistance or more subjective measurements such as fibonacci retracements, pivot points, trendlines, or other forms of reactive areas, the horizontal lines of support and resistance are universal concepts used by the majority of market participants. It, therefore, makes the areas the most widely followed and relevant to monitor. The Ultimate Guide To Identify Areas Of High Interest In Any Market
  • Trendlines: Besides the horizontal lines, trendlines are helpful as a visual representation of the trend. The trendlines are drawn respecting a series of rules that determine the validation of a new cycle being created. Therefore, these trendline drawn in the chart hinge to a certain interpretation of market structures.
  • Correlations: Each forex pair has a series of highly correlated assets to assess valuations. This type of study is called inter-market analysis and it involves scoping out anomalies in the ever-evolving global interconnectivity between equities, bonds, currencies, and commodities. If you would like to understand more about this concept, refer to the tutorial How Divergence In Correlated Assets Can Help You Add An Edge.
  • Fundamentals: It’s important to highlight that the daily market outlook provided in this report is subject to the impact of the fundamental news. Any unexpected news may cause the price to behave erratically in the short term.
  • Projection Targets: The usefulness of the 100% projection resides in the symmetry and harmonic relationships of market cycles. By drawing a 100% projection, you can anticipate the area in the chart where some type of pause and potential reversals in price is likely to occur, due to 1. The side in control of the cycle takes profits 2. Counter-trend positions are added by contrarian players 3. These are price points where limit orders are set by market-makers. You can find out more by reading the tutorial on The Magical 100% Fibonacci Projection
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