Posted on: 29 Jan, 2019
The narrative in financial markets is quickly evolving from a state of relative stability in light of a potential trade deal between the US and China on trade towards the cruel reality. The disappointing earnings by Caterpillar and Nvidia, the former seen as a bellwether of the global industrial sector, comes to show that US companies were not immune to the Chinese trade tariffs.
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The narrative in financial markets is quickly evolving from a state of relative stability on lingering positives from an anticipated deal between the US and China on trade, towards the cruel reality of the cyclical macro risk-off trend established in US equities since last year. The disappointing earnings by Caterpillar and Nvidia, the former seen as a bellwether of the global industrial sector, comes to show that US companies were not immune to the Chinese trade tariffs.
Not only we see G10 economies, with the US the maximum expression, suffering from late economic and business cycles, but the Sino-US trade war has exacerbated, if anything, the underlying weakening trends in economies such as the European Union, the United States, and especially in China, with the domino effect expanding elsewhere. I focus on these three countries in particular as they account for most of the globally generated growth.
The temporary re-opening of the US government after a record-long shutdown should really be perceived as a short-term risk removal but far from acting as a catalyst to influence market movements for a protracted period of time, as clearly seen by the price action in equities on Monday.
The concurrent negative outlook in China by heavyweights such as Caterpillar, NVIDIA, Apple, and the list goes on, is the byproduct of an economy that is walking a tightrope with clear symptoms of a slowdown. There is an excessive reliance towards China, which is no surprise as the country has single-handedly orchestrated over ½ the global growth in the last decade.
In FX, the USD continues to trade on the backfoot after an off the cuff massive sell-off last Friday, in which no single driver could be attributed. The Aussie and the Kiwi have been well supported in light of the weakness seen in the US Dollar. One currency that remains relatively cheap if risk-off were to pick up further is the Japanese Yen, which has corrected a decent portion of its Dec-Jan rally. Wherever equities go, the Yen crosses will most likely follow. The CAD traded offered as Oil came under pressure.
It’s the markets’ hope that through the course of this week, high-level talks between the US and China in Washington can yield positive outcomes for markets to latch on. If you think about it, there is a broad-based recognition by market forces, as manifested via the Oct-Dec sell-off in equities, that the global economy is in trouble as the G4 aggregated balance sheets shrink. This has immense repercussions as Central Bank have sadly become the ultimate liquidity providers in the system.
Striking a deal in the trade front with China won’t be easy, as the US keeps flexing its muscle to make sure their ambitious demands are met within a context of accountability and enforcement. However, alongside an eventual end to the current trade stand-off, what’s really going to move the needle to keep markets sustained is the anticipation that Central Banks will be the ultimate markets’ sugar daddy providing further stimulus when the proverbial hits the fan.
The PBOC has been forced to maintain its perpetual easing bias since the GFC with further stimulatory policy tweaks, the ECB has touched on the idea of readiness for further easing if needed, while talk is emerging that the Fed may end the normalization of its balance sheet (QT) earlier-than-expected. The 3 banks are the real elephants in the room where the fate of markets rests from a macro perspective.
Talking about macro, it’s precisely the convergence of major cyclical forces originated back in October via the aggressive selling of the S&P 500 - proxy for global stocks - and the familiar spillovers we saw into credits, the Japanese Yen, etc, that we simply cannot ignore. Even if the start of the year has seen a short-term relief rally that may have ignited renewed hopes, one will be hard-pressed arguing that the rise in the stock index has inflicted sufficient technical damage to make a case for a change in the underlying macro risk-off tone. Too little in the grand scheme of things.
That’s precisely the reason why whenever we get a concurrence of signals all pointing for a resumption of the underlying bearish trend, we should listen. I am referring that after a month-long rally, we finally see the 5-day MA in the S&P 500 rolling over. Whenever that’s happened since the top from October last year, it’s certainly acted as an accurate pre-cursor.
The slope of the reliable 5-DMA in the US fixed income is not helping, as the dynamics are clearly in favor of sellers, even if in the short-term, a range has now been established. If we can find a resolution sub 3.03%, the US 30-year bond may find further technical demand towards 3%. Even as one shifts its focus to gold, the picture is analogous of an environment prone to feed risk-off flows as the metal exchanges hands above $1.3k even if mostly fueled by USD weakness for now.
Gold/Aussie looks ready for a trend resumption. One could make a solid case from the black vertical line when a breakout materialized in line with the current cycle. You will notice that there is a concurrence in slopes via the 5-DMA in the IG/HYG ratio (negative signs in credit markets), inverted S&P 500 or Aussie yield curve, which continues to flatten and it indicates the risks are building up for the RBA to sounds more dovish going forward. Bear in mind, all the added instruments exhibit very credible correlations with XAU/AUD as of late, strengthening the bullish case.
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