Macro Outlook for May 23, 2014
I may still post the weekly correlation / sensitivity sheet with my macro thoughts and potential opportunities for the following week.
Correlation / Sensitivity Sheet for May 23, 2014
AUD: Fell -100 pips or so for the week. Most of it came in the first few days as iron ore prices fell, and S&P put Australia credit rating for possible review. Market believes high AUD may be restraining the economy and took profit in AUD and it fell. Did try to rise on stronger China data, but was not able to sustain it. RBA said the 2.9% inflation is statistical noise, so no current bullish AUD scenario. And if it cannot rally on stronger China data, then I am not touching it. Just waiting
NZD: Same as AUD. The market believes high AUD and NZD restraining economies and they took them down a bit the past week. Just waiting
CAD: flat for the week. CAD mysteriously rose the last two days of the trading week. Not sure why. Not doing anything. Just waiting. USD/CAD option barrier at 1.0800
EUR: Sold off around 80 pips for the week. The bearish case is that some tech accounts selling EUR/USD as it dropped below the 200 daily simple moving average. And EUR/USD barriers below 1.3600 may encourage the market to press lower and catch some option players off guard and cause a big drop in EUR/USD as option players scramble to hedge their positions by shorting EUR/USD. The high EUR hurting French economy and restraining the periphery countries. Germany still seems fine and is leading the recovery. The EUR/USD has already had a multi day momentum drop from 1.3950 down to 1.3650 or so to take into account the heightened possibility of ECB action in June. The big question is whether this is the beginning of a 1,000 pip or 1,500 pip EUR drop. Currently I am saying No, since in the current macro environment, currency volatility is dampened, so getting a MDMM to turn into a Global macro move can be a bit difficult without some big monetary policy divergence. And I do not think a rate cut by the ECB will be enough. I still think demand for EUR denominated equities and bonds will prop up the EUR. Not chasing EUR lower. If I am going to short it, it will only be on a 100+ pip bounce.
GBP: flat for the week. CPI did rise to 1.8% , but the high GBP and slack in the economy can restrain the inflation outlook and recovery and dampen rate hikes. So the GBP upside is restrained as you can tell by the price chart. Even when the BoE does begin to hike, they may just hike once and then take their sweet time to see how the economy and bond market responds to the rate hike. So currency volatility is dampened by the fact that the rate hikes are about a year away, and when they do rise, they will be gradual as the central bankers want time to see how the economy handles the rate hikes, and when they do keep hiking, they can peak below the historic normal. That is what the currency markets are assuming so far. Not doing anything. Just waiting. EUR/GBP barriers at 0.8050 and 0.8000
JPY: Sold off -50 pips to -100 pips for the week as the Nikkei rallied as there was stronger China data and subsequent risk appetite. But first USD/JPY knocked out the 101.00 exotic option barriers. More barriers at 100.50 and at 100.00 and below. JPY did not sell off much this week as bonds did not drop that much this past week. Bonds only dropped a tiny amount for the week. Not doing anything here. Just waiting.
USD/JPY reluctant to go much higher because the stronger US economy is not being followed by the normal faster rate hikes. Rate hikes will be delayed for another year and when they do rise, they will be gradual and peak below norm. So it dampens some USD/JPY topside potential.
S&P: Rallied for the week helped by perceived improvement to the U.S. economy, stronger New Home Sales, stronger China manuf data, rally in tech and momo stocks, potential for reduction in Ukraine – Russia tensions and some feel good pre Memorial day buying. The market held up well against the previous weaker China numbers, sever winter, etc and now it is grinding higher. It is a rally higher, but on weak volume. Bond yields are still low, and the higher Crude Oil price is not effecting the economy yet. No sense trying to short it now. Don’t see anything. Let the S&P go above 1900 and grind higher and re evalute after that.
Buyers on the dips from the low bond yields and perceived economic expansion as the winter storms have ended. Not chasing a breakout either way. Just staying tactical with any intraday trades I find. Better swing trading opportunities in individual stocks as company and sector specific opportunities play greater importance.
Various potential forces that can cause the market to go up or down are: For the bullish side the potential for the ECB dovish action, if China growth bounces back, stronger US data. Bearish scenarios are: escalation of Ukraine – Russia tensions, China slows down more, bond yields surge, Crude Oil prices surge.
Overall, I would say the S&P has held up fairly well against the weaker China numbers, Ukraine – Russia tensions, severe winter, momo stock liquidation, etc. So the bull market looks intact. It is just in a consolidation mode digesting last years gains searching for new catalysts.
Overall, this is the year where stock pickers shine as individual stocks will have better reward/risk characteristics than a plain, vanilla long S&P position. The continued bullish case for equities is still attractive for foreign and domestic investors: The USD is still flat/weak, Fed still has 5-7 months of QE left, inflation still low and subdued, there seems to be an energy boom over the past few years, housing may have room to grow further as the unemployment rate drops, the wealth effect of rising home prices and higher equity prices, interest rates to rise only gradually in 2015.
Nikkei: Big rally for the week as it was helped by the stronger Japan exports for April, indicating the economy is weathering the sales tax hike fairly well. Also boosted by stronger China data and the rise in risk appetite, and small drop in the JPY. Other than that, same as S&P. Not chasing.
Bonds: only dropped very slightly for the week, even though S&P rose for the week. So the risk appetite not causing bonds to drop yet. Mostly flat so far. Market players still hunting for income producing assets and have a bid under bonds expecting a low interest rate, low growth and low inflation macro environment. This lack of big monetary policy divergences and slow central bank action to remove stimulus and hike rates, etc is not just dampening currency volatility, but also bond market volatility as well. Just waiting.
Gold: Flat and choppy for the week. The lack of currency and bond market volatility is also dampening gold market volatility. Just waiting
Crude: This is the most interesting market at the moment. I said last week that I will be watching the market closely to see which way it will go. And this week it decided to break out higher. Various reasons can potential include the combo of lower inventories at Cushing and the drop in Gulf Coast inventories, Libya supplies being at risk, potential for Crude export ban removal, stronger China data, etc. Another theory being floated is that if the U.S. imports less Crude oil since it is producing so much domestically, there will be more demand for the U.S. crude already in storage, thus causing the Crude stockpiles to drop, thus causing Crude price to rally. An interesting story. Also boosted by pre Memorial day Gasoline buying.
I would expect higher prices over the next week. Shorting Crude can be dangerous as who knows how high it will go? It could go to 105, 107, 111, 113, or 117? Who knows when the relentless rise will end? If the high inventories cannot encourage macro sellers, then that was the only scenario to try to keep a lid on the market, but the market is going higher. Another theory I have read is that the supply gut is only artificial, as if the U.S. removed the U.S. export ban, the Crude would find buyers very quickly and the inventories would drop rapidly.
The big questions for the market are:
How will the U.S. economic data be after the severe weather ends? Will demand pick up quickly or not?
ECB to do QE to speed up the recovery?
Will Chinese situation worsen as more companies default and they curb property loans, and shut down the obsolete and environmentally hazardous factories and overcapacity in the manufacturing sector?
Will there be severe sanctions on Russia?
Will Japan growth fall after sales tax rise and from lower China growth?
U.S. econ to strengthen or weaken?
How fast and how much will Fed taper?
Mediocre U.S. data and low inflation to cause Fed to delay further taper?
Mediocre U.S. data and low inflation to cause Fed to expand bond buying?
Fed to taper hard and fast, by 20bln?
Inflation to come back or remain subdued?
EUR to sell off to rebalance economy toward higher inflation and lower unemployment rate?
Japan growth and inflation to disappoint after sales tax hike? Will that cause the BoJ to do more QE? Will the JPY have to weaken further?
Any risk aversion scenarios on the horizon?