Macro Outlook for July 13, 2014:
Correlation / Sensitivity Sheet for July 13, 2014:
AUD: Flat and choppy over past few weeks. AUD/USD knocked out the 0.9500 barriers, then fell back into the trading range. More exotic option barriers above 0.9500. Inflation is at a high 2.9%, but the RBA feels inflation will remained contained with the restrained wage growth, and continued adjustment to lower levels of mining investment. And also crop prices are dropping a lot, which can keep a lid on food prices. So the RBA is not going to shift to hawkish stance.
The bullish scenarios that are supporting the AUD are the continued risk appetite and carry trade demand, China expected to be just fine on rumored loosening of property curbs, and auto sales were very strong for first half of the year in China.
Bearish scenarios are that the RBA would still like a lower level of the AUD/USD, say around 0.8500, and RBA Stevens said they still have ammunition despite accommodative environment, the unemployment rate rose to highest in many years.
Overall, not doing anything at current levels. Can consider short AUD/USD trades above 0.9500.
NZD: grinded higher by +100 pips over past few weeks as RBNZ went hawkish by removing the language about how the high NZD “may limit the speed and extent of future rate increases.” 0.8800 barriers knocked out. More barriers at 0.8850 and above. Tried shorting once, but I covered around breakeven. NZ has a two speed economy. The buoyant housing market and construction sector is causing rate hikes by the RBNZ. The other tradeable goods sector is doing decent, though on its own, it would not require rate hikes as the NZD exchange rate is on the high side according to the RBNZ and the CPI inflation is still contained at 1.5%. The higher NZD and rate hikes are starting to impact business confidence, though I am unsure if that will cause RBNZ to delay future rate hikes or not. Current expectations are for another rate hike this month.
Bullish Scenarios are the support by the risk appetite and carry trade demand, and continued expectation of RBNZ rate hikes. By the time the BoE and Fed start hiking rates, the RBNZ may have hiked rates another 3-4 times.
Bearish scenarios are the lower terms of trade as dairy prices have declined.
Overall, I would consider another short trades in NZD/USD in the 0.8900 – 0.9000 range
CAD: Fridays sell off made CAD flat over past three weeks. Previous rise due to risk appetite, perceived China growth being fine, and some short covering. There are diverging unemployment rates between Canada and the U.S, as CAD unemployment rose to 7.1% and US unemployment dropped to 6.1%. Though this is not causing any BoC dovishness or Fed hawkishness just yet. USD/CAD barriers at 1.0600.
Bullish Scenarios: do not see any
Bearish Scenarios: further drop in crude oil prices, Bank of Canada tilts towards dovish side.
Overall, I would look to buy USD/CAD if it hits the 1.0600 barriers, assuming Friday’s CAD unemployment report to cause slight dovishness. It is possible the CAD can continue to sell off even from current levels.
CHF: No new important informaton to interpret.
EUR: flat over past few weeks. French CPI y/y dropped to 0.6% for June. Portugal CPI y/y at -0.4%. Economic Growth is still weak. French Finance Minister said that ECB asset purchases seem unavoidable and inevitable. ECB members seem content to wait a few months to see the impact of their rate cut to see how it is working. They do not want to jump to QE right away. So that lack of decisive QE, and lack of faster Fed rate hikes are propping up EUR/USD. There is a moderate macro presence short EUR/USD and they are just maintaining it expecting a gradual grind lower. They are not short covering, nor taking profit.
Overall, I do think ECB is behind the curve and there is a higher chance of QE than what the market is expecting. But the ECB seems content to wait a few months before considering further action. So that means I do not want to short EUR/USD at bottom tick. Though it may grind lower. With economic growth weak, wage growth weak, and anticipated lower crop and food prices, I would expect CPI in Eurozone to remain subdued. EUR/USD still overvalued from a macro perspective, whether at 1.3900 or 1.3600. I would prefer shorting around 1.3700 or so.
Bullish Scenarios: do not see any
Bearish Scenarios: further substantial drop in CPI inflation, weaker EZ data, sovereign debt concerns in periphery flare up.
GBP: rallied +100 pips over past few weeks, similar to NZD. Rallied on stronger UK data, rising home prices and perceived strong growth. Barriers at 1.7100 and 1.7150 knocked out. Overall, the GBP has risen a few hundred pips from the Jun lows. That seems like a decent macro adjustment to take into account a perceived faster rate hike. I think the high GBP and expected subdued CPI will limit GBP gains and may cause profit taking
Bullish Scenarios: strong economic growth can be diminishing spare capacity in the economy, rising home prices
Bearish Scenarios: slack in wages can limit rise in inflation, high GBP can restrain economy and limit CPI rises.
Overall, I may consider a short GBP/USD if it knocks out the 1.7200 barriers.
JPY: JPY rose +100 pips ofr the week as bonds rose. The USD/JPY chart looks like it wants to break lower, though there is a lack of catalyst. The Typhoon did not cause that much damage, so it doesn’t look like there will be large JPY repatriation. Market already used to the BoJ not doing imminent QE. Economic data has been mixed, so unsure of any trends there. There is still a moderate macro short interest in the JPY, though they do not seem to want to cover their shorts. Risk appetite is still buyoant and supporting USD/JPY even as bonds yields have dropped. And the market does eventually expect the Fed to raise rates.
There are a lot of exotic option activitiy building beyond the 100.00 – 105.00 range over the past seven months. Lots of DNT’s with barrier prices below 100.00 and above 105.00. If the market can get below 100.00, it may cause the market to get caught short volatility and many option players may scramble to sell USD/JPY to hedge their exotic option liabilities. Though there doesn’t seem to be any clear catalysts at this point. I do want to keep it in the back of my mind.
S&P: grinded higher over the past few weeks. Market is much more comfortable expecting decent growth going forward. Helped by strong NFP data, drop in crude oil prices, market believes China is just fine. It tried to make some stabs lower on portfolio rebalancing from pension funds that are locking in profits on equities after the big rise, but other bargain hunters scooping up the equities. Market seems very comfortable with Fed ending taper around October of this year. Bullish sensitivity as the market is shrugging off Israel -Gaza operations and Ukraine operations. Lower bond yields since beginning of the year helping the bullish macro forces.
The threat of high crude prices threatening the bull market has diminished. The only other bearish scenario are that the market is bumping up against General Full Valuations similar to what happened in the first few months of the year. However, Back in the first few months there were also concerns about China growth, Ukraine tensions, and the severe winter in the United States. Those concerns have diminished and been removed. Market expects China to be just fine, and stronger NFP data, etc. So the market can continue to grind higher. No one wants to sell their equities for fear the market can keep going up and may not retrace. And if prices do retrace, it does not encourage aggressive selling yet as many participants just hold on and expect prices to rise again.
Market volatility is low as the market is not pricing in a rapid rise in interest rates. So the market can continue to grind higher in the absence of risk aversion events. No one wants to chase top tick and no one wants to take profit as they fear the market can just keep grinding higher and may not retrace. I wouldn’t chase top tick either.
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 a few 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.
Bullish Scenarios: if there is: further drop in crude prices, more M&A activity, stronger US data, higher capital expenditures by companies
Bearish Scenarios: do not see any
Bonds: Stayed roughly within the trading range of 137 – 135. When bonds hit the bottom end of the range there are buyers from relative yield differential between US and other countries such as Germany, Japan. US yields are higher, so some market participants are finding relative value and buying US bonds. The market still expects inflation to be subdued, even though the recent CPI reading was around 2.0%. And the market still expects only moderate growth and for the Fed to only hikes rate gradually. Some pension funds rebalancing by selling equities and buying bonds to lock in equity gains. Bonds recovered the intraday losses suffered after the stronger NFP report, so still bullish sensitivity on the range lows.
Crude Oil: Tried to rally on the Iraqi Al Queda taking over territory and the US Commerce Department making small changes to open the door to more US oil exports. Then sold off -$6.00 past few weeks. Due to the perception that the Iraqi exports will not be threatened, and the resumption of higher exports from Libya and the rise in Cushing inventories.
The other big change is that there are more pipelines being built to both bring Crude Oil into Cushing, Oklahoma and to remove Crude out of there. Part of the rally in Crude over the past seven months was due to the drop in inventories at Cushing. With these new pipelines, some people say there can be higher Crude inventories being added to Cushing, than will be removed. So that could be bearish for Crude Oil.
Managed money still has substantial long positions in Crude Oil and they have started to take profit. I think it will fall further.
Gold: slight grind higher over past few weeks. Most of the shorts have covered, so the price rise is from fresh longs coming into the market. Rose partially due to some combination of Israel – Gaza operations, Portuguese company missing debt payments.
I wouldn’t chase gold higher purely on bets the Fed to keep rates near low levels as the US economy improves. That is not a huge bullish scenario. Only if that environment comes with above average inflation would gold benefit a lot. Only other reasons to buy gold are with safe haven catalyst scenarios. Other than that, I would favor equities for more capital appreciation and they can even give dividend income, while gold does not give income.
Overall, not doing anything here.
U.S. econ to strengthen or weaken?
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?