Tickmill Daily Market Notes

Discussion in 'Fundamental Analysis' started by Tickmill-News, Aug 3, 2018.

  1. Tickmill-News

    Tickmill-News Trader

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    Fed-fueled rally fades as markets concentrate on Trump-Xi meeting


    In continuation of my Thursday discussion about the stock market rally, volatility responded curiously to Powell’s speech on Wednesday. Usually, the VIX and S&P 500 move just the opposite (although with different amplitudes), but on Wednesday there was a moment when the 9-day expected volatility (VXST) rose despite the 2% gains of S&P 500 which is very unusual.

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    Usually, the VIX and the S&P 500 move in different directions, since, roughly speaking, panic and the accompanying increase in volatility is inherent in a rather bear market (“market goes up by stairs and down by elevator”). Interestingly, this movement has not been observed on the market since 2011.

    The dots on the chart indicate the daily changes in VXST (9-day volatility), in those days when the S&P 500 grew by more than 2% per day. On average, VXST fell by -17%.


    One of the possible explanations for what happened is that some market participants did not buy at the rally initiated by Powell, as they are waiting for the results of the Trump-Xi meeting, which I wrote about yesterday.


    Despite the increase in fiscal and monetary support in recent months, the activity of the manufacturing sector in China fell to 2016 low and is on the verge of contraction. The main indicator was 50 points in November – the value of separating recovery and recession.


    The service sector in China is also not yet able to take on the burden of growth – activity in it slowed to 53.4 points in November against expectations of 53.8 points.


    The weakness of debt-addicted economy cannot be eradicated even after a fresh stimulus package- income tax cuts, credit support for financial organizations in order to pour this money into enterprises through stocks and bonds. The size and position in China in the global economy will guarantee the recession echoes will feed into the PMI data of other countries, primarily in the EU and the US. Their PMI gauges is expected to be released next week.


    The minutes of the Fed meeting, which appeared yesterday, could seem irrelevant knowledge to the markets in the light of Powell’s communication on Wednesday, but the statement language convinces that concerns about growth in 2019 has been already gaining momentum at the beginning of this month.


    First, the officials urged to be more attentive to the incoming economic data. They said that in the upcoming meetings, in the content of the statement and the wording, it may be appropriate to place more emphasis on economic data in economic assessments and policy forecasts.


    That old and well-known “data dependence” narrative which pervaded Yellen’s comments and which Draghi cannot yet get rid of. This is the exact caution motive which may serve as fundamental ground for expectations of only one rate increase next year (in fact, to the lower limit of the neutral rate estimates by the Fed).


    Secondly, after a series of previous statements about strong, robust growth, first signs of Fed concerns about the economy were concentrated around slowdown in “some rate-sensitive sectors” in the November statement. Most likely this is the real estate market and possibly the construction sector related to it, the data for which were absolutely not impressive this year. Since March 2016, the 30-year mortgage rate has risen from 3.6 to 5.2%.


    Stock markets reacted slightly, the dollar changed was flat. Futures on the interest rate point to the same probability of a rate increase in December, while we are waiting for the results of the Trump-Xi meeting.


    Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.
     
  2. Tickmill-News

    Tickmill-News Trader

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    Huawei – the new bone of contention between China and US


    Despite the catchy headlines of the reports covering the OPEC meeting, the oil market preferred to read between the lines, making frowning conclusion from the statements: the cartel members could not move further from the mere awareness that the threat of oversupply exists.

    The meeting of Saudi Arabia, other members of the cartel and Russia ultimately produced only a recommendation to curb production, without a formal agreement on how much oil should leave the market.

    Representatives of the OPEC countries hit the wires with comments on Wednesday on how important it is to cut production now, and the Russian representative confirmed that the meeting was constructive, but the result will be announced at a meeting in Vienna today. As a result, relying on positive rhetoric, oil prices may spend the day in positive territory, waiting for fruitful decisions.

    Most likely the participants will agree on the extension of the existing production quotas. But some of the Russian producers have already expressed doubts about the possibility of cutting production due to seasonal difficulties, for example, Lukoil.

    After the statements from Oman delegates that decline in production could be as low as 1 million barrels, prices fell. This may indicate that the market expects more serious concessions from OPEC.

    The growth of commercial inventories in the United States so far effectively prevents the growth of positive sentiment in the oil market, which, moreover, is gradually accepting the hypothesis of a global slowdown in demand. In such conditions, output cut is an obvious necessity for OPEC, but the whole question is how much the members of the cartel are willing to sacrifice in order not to infringe upon their national economic interests.

    Yesterday there were reports that Huawei CFO was detained in Canada on request of the US. The part of the market that has relied on the rapprochement of China and the United States after the meeting in Argentina is likely to start correcting its wrong hopes, this can now be seen from the fall of US stock futures. SPX, with ease, punctured the 2,700 mark down, Wall Street is likely to hold in sales today.

    A top manager of a Chinese company is awaiting extradition to the US after being detained on the first of December, that is, before Trump and Xi meeting. Most likely, the reason for the arrest was the involvement in the sale of HP equipment, to the sanctioned Iran. It is unlikely that Trump did not know about this and did not authorize the detention, so he won’t be able to portray a surprise. And if he knew, the reaction of the markets was easy to predict, the fragile expectations due to the uncertainty with the tariffs only increases the amplitude of the negative reaction. The costs of creating additional tensions with China are high, so the reason is serious, and the dust will not be settled down quickly. The short trade of the S&P 500 now looks like an easy bet as the truce in a trade war can easily be broken.

    The Fed released the Beige Book on Wednesday with pretty rich content for even polar interpretations. On the one hand, the number of references to the word “tariffs” decreased from a peak of 51 to 39 in December, on the other hand, the number of references to the word “slow” rose to the highest level in 2018. The frequency approach to analyzing the content of the Beige Book is justified by the fact that the Fed gathers anecdotal feedback of company managers, economists, market experts from different US districts about economy situation in the country. The citation of some actual words allows us to assess the general mood of the respondents.
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    Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.
     
  3. Tickmill-News

    Tickmill-News Trader

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    A short guide: How to use data on the T-bills to estimate future Fed rate hikes?
    Amid growing jittery that the Fed made a mistake picking up the quarterly pace of rate hikes and reluctantly admits its flaw, the US term structure of interest rates earns back the status of a “reliable predictor” of a looming slowdown. Recently, I wrote about how the spread between 10-year and two-year bonds portrayed extreme distrust of the Fed’s policy in the medium term, but today I would like to speculate about the even shorter timeframe of the Fed’s actions.

    With the December meeting approaching and keeping in mind the quarterly pace of rate increases by the Fed, it is curious to see how the yield of 1-month and 3-month Treasury bonds behave together. If we assume that inflationary expectations in the short-term interval are roughly equal (i.e. only Fed decisions affect their yield then), comparing their yields, we can put forward a guess what the bond market thinks about the Fed meeting in March, which corresponds to the supposed quarterly increase in the rate.

    The last auction of 3-month bonds in the amount of 39 billion was held this Monday, while the auction for the 1-month ones was held on Thursday. It is noteworthy that the yield to maturity of both terms was about the same.
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    Since the market is highly likely to expect a rate hike in December, convergence in yields of 1-month bonds with 3-month (which YTM basically focuses on the March decision) means that the expectations for a rate increase in March gradually leave the market. After all, if the opposite were true, the demand for three-month bonds would have to fall, which would be expressed in the increase in YTM (yield-to-maturity).

    Of course, you may not bother with the details of yield movements and just look at the probability distribution of futures on the rate hike.
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    The chances of a rate increase in March to the level of 250-275 dropped to 33%, although only a month ago the probability of the increase was 50%.

    And certainly, what will not leave the Fed indifferent is the inflation expectations (albeit measured through inflation-linked bonds), which did not last long at the desired level of 2% and began to dive.
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    The latest data shows that inflation expectations, measured “through the consumer” (for example, from W. Michigan), also slightly slowed down. The problem is that they are more likely to be lagging (considering that the consumer is less aware of the trend in economy) than the leading inflation expectations measured through the demand for bonds. On the other hand, we can’t rule out that the market reaction to what is happening in the economy can be irrational (for example, to the effects of tariffs), which then spreads to other agents (firms, consumers), and positive loop feedback only enhances the effect. The Fed is now trying to stabilize expectations and particularly illustrative for this are the comments of the President of the Federal Reserve Bank John Williams, who said recently that the Central Bank cannot react to every whim of the markets.

    In general, the following situation arises: the market prices in one incomplete rate increase in 2019 and the beginning of a new easing program (QE4) in 2020. Then the Fed will have to begin to soften credit conditions in the economy, as expectations of a new wave of recession rise due to fading fiscal impulse, the effects of trade tensions and a seemingly deadlock state in the oil market.

    In the short-run, hopes to remain for wage growth, data on which will be released today. The monthly wage change is expected to be at the level of 0.3%, the number of jobs – 198K, unemployment – at the level of 3.7%.

    Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.
     
  4. Tickmill-News

    Tickmill-News Trader

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    November US CPI may follow lackluster wages, Fed to call off March rate hike

    The Asian and European markets rose on Wednesday thanks to positive comments from the US president regarding the trade deal, freeing Huawei top manager Meng on bail. The major source of gloom remains the risk of ousting British Prime Minister May, what threatens to thwart Brexit plans.

    In an interview with Reuters, Trump said that the US government is conducting trade negotiations with China over the phone, and the new tariffs will not be introduced until certain results on the deal appear.

    Trump decided to intervene in the Huawei case, under with the provision that non-intervention poses a threat to national security. This moment has yet to be clarified, but even now it allows the markets to downplay the risk of an escalation of the conflict with China.

    A Canadian court decided to release Meng on bail, although, according to tentative information, he refused to do so, given severity of the charges and difficulty of determining the correct amount of bail. Keeping Meng in custody forced the markets to include the consequences of China’s “stern response” in the asset prices, but now it allows them to count on positive developments, in particular, on the trade deal.

    The news background has improved enough to allow global markets to start trading on Wednesday with a correction, after a weak start at the beginning of the week. The MSCI broad Asia-Pacific index added 1.2% on Wednesday, while the positive attitude was clearly visible on the Chinese stock market.

    China has already shown the will to cooperate, considering the reduction of tariffs on car imports from 40 to 15%. On the other hand, it can hardly be called a serious concession, given that the authorities are trying to boost consumer demand in the context of weakening the main driver of growth – production.

    Negative expectations regarding the trade deal are fueled by news that several state agencies in the US are going to publish a report on China’s wrongdoings in commercial espionage and hacking. On the other hand, the government already has this information, so without specific consequences (for example, sanctions or indictments) the publication of evidence is unlikely to lead to an escalation of the conflict.

    In the foreign exchange market, the pound sterling is down to the lowest level for 20 months against the dollar amid speculation that the conservative party may put forward a vote of no confidence in May. The likelihood of such an outcome increased after May moved the vote on Brexit, fearing its failure. In the event that May loses her seat, a supporter of hard Brexit will probably come to power, who may even initiate a second referendum. The pound is significantly oversold and barely holds above 1.25 on negative expectations, so any news about the trade-off will allow the British currency to materially strengthen.

    Consumer inflation data for November are due later today. There is a significant risk of a negative surprise, considering that the data on wage for the past month did not meet expectations. Wage growth increased by 0.2% in November against the forecast of 0.3%. The early weakening of pressure in prices will strengthen speculation that the Fed will postpone rate hikes in 2019. The chances for the March rate hike are low, currently staying nearly 26%.

    Oil prices rose after the API data pointed to a significant (-10M) decline in US commercial reserves, suggesting that a sharp decline in prices forced producers to slow down production pace. WTI rose cautiously on Wednesday by half a percent.
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