- January has been a fearful month for the markets as traders have flooded out of risk assets to find a safe harbour to ride out the storm. Markets have become increasingly concerned with what is happening in China for a driver of day to day sentiment. The concern is that the economic data out of China continues to deteriorate and when you add in the fact that the Chinese yuan is still arguably more than 10% over-valued, there is still bad news out there waiting to hit the markets. The biggest casualty of the slowdown in the world’s second largest economy (an economy that has been the engine room of global growth) remains across the commodities complex, with the weakness on oil the perpetual headline of late. Traders are seeing all this as an excuse to flood out of risk assets and this means that the classic safe havens have been the outperformers. However is this a sentiment shift that is set to last and what are the harbingers to signal a turnaround in risk appetite?
- The relief over China running at 6.9% GDP for 2015 (in line with expectations) has driven a near term rebound today but the miss on industrial production and also retail sales (the services sector is now just over half the economy) is still a concern. Also if the People’s Bank of China continues to set the mid-point for the yuan on a sliding basis against the dollar the market will take this as a big warning sign, and of late there is little excuse needed for a sell-off.
- The oil price will also be a big driver. The removal of sanctions that have prevented Iranian oil supplies coming on to the global market means that there will be further imbalance between global demand and supply. The International Energy Association predicts that this will increase production by around 300,000 barrels by the end of Q1 2016. Interestingly though the IEA also expect that the oil demand growth will pick up from 1.0 million barrels per day in Q4 2015 to sit around 1.2m barrels in 2016. Perhaps the market has priced in already the Iran news and could this provide some support to the market?
- The concerns over global growth are playing out through the yield on the US 10 year Treasury which has recently fallen to an 11 week low and remains in a bear phase. This is another reflection of the desire for traders to look towards safe havens. With the US 2 year yield also having fallen to an 8 week low this reflects the market’s concerns over the ability for the Fed to fit in its apparent preference for 4 rate hikes this year. A rate hike at the FOMC meeting next week is not going to be seen (the next real opportunity is the meeting in mid-March). The chances of a March hike are now at 30% according to the CME Group analysis of Fed Funds futures, so now fairly unlikely.
- Looking at the forex majors the currencies are trading as to be expected according to risk. There is a split between the outperformance of the safe haven plays which are predominantly the euro and the yen on the one hand, and the weakness in the higher risk commodity currencies such as the Aussie, Kiwi and Canadian Loonie. The US dollar seems to be stuck in the middle of this seesaw. The sharp rebound in risk currencies today is only likely to continue if the rebound in oil continues. However, be careful as the PBoC has kept a relatively settled mid-point on the yuan in recent sessions and if it chooses to let it slip once more then the risk trades on forex will come under further pressure.
- Equity markets which are a relatively higher risk play have also been shot to pieces in recent weeks. The VIX may not be a great front-running indicator (it is arguably more reflective of the current mood of traders), but still the VIX hit a 4 month high yesterday which shows the fear that equity markets are experiencing. Equity markets have been flirting with their crucial late summer 2015 lows and although the move today has picked them up 2% off those lows, there is still much that needs to be done to suggest it is a sustainable move. As with other asset classes, the outlook for China and oil are key drivers of the risk here.
- And all the while, gold is sitting in a consolidation range. I have spoken numerous times of the band between $1077/$1098 being key for the medium term outlook and it is currently stuck bang in the middle having lost direction. The US dollar is consolidating, as is the gold price. The safe haven flows that had pulled gold higher in the early days of January now seem to have lost their impetus again. Gold could once more trade in negative correlation to the dollar, which if the Fed struggles to hike in March, could give it a boost.
- The outlook for the coming days brings inflation back into view. The UK inflation has just been announced that it has been higher than expected with the core jumping to 1.4%. Average hourly earnings will now be keenly watched tomorrow and this could be the basis of a sterling turnaround if wage growth also picks up unexpectedly. It is a similar story for the US which also needs to see inflation picking up to counter the argument that the Fed engaged in a policy mistake in hiking.
- We also have the ECB monetary policy to drive markets again. This is always a volatile occasion, but there is little real expectation of any moves at this meeting. However there is the likelihood that Draghi will spend the press conference trying to jawbone the euro lower again, in the knowledge that he failed rather spectacularly last time around. Although there is room for further cuts to the deposit rate (with little adverse economic impact from the negative rates so far), there still needs to be more time to see the impact of the latest move.
- Watch for: US CPI, ECB monetary policy
EUR/USD – Watch for a confirmed break of either support at $1.0810 or resistance at $1.0990
- The neutral outlook on the euro continues, which is interesting as the euro is seen to be a safe haven currently. The general outlook for the market will drive the euro today and tomorrow, but then the CB will drive sentiment. I would expect a breakout from the range and some direction to result.
- The old floor at $1.0810 is again supportive, with the intraday moves into the $1.0950/$1.0990 resistance band failing to sustain the break. With momentum increasingly neutral we need a catalyst for the breakout and with the ECB on Thursday it could easily be just that.
- Watch for: US CPI, ECB monetary policy
GBP/USD – Sell into strength for now
- The improvement in UK inflation has been the first sign of positive economic data for sterling in weeks. Can this continue with an improvement in earnings growth too? If so then perhaps there could be an improvement in sentiment on Cable which has been battered recently.
- Cable has bounced off the $1.4230 crucial May 2010 low. There is much more that needs to be seen but the bulls will be looking at $1.4350 as a near term resistance now. There is the prospect of a technical rally within a 5 week downtrend, with the trendline currently around $1.4490.
- Watch for: UK earnings growth, US CPI, UK Retail Sales
USD/JPY – The floor at 116.46 now needs to hold to prevent 115.50
- A declining Dollar/Yen is a classic sign of safe haven trading. However a burgeoning rally suggests this mood is potentially about to change. A positive move on the US inflation data could help the turn around. The trade is though primarily being driven by views on China and oil.
- The crucial floor of the August low at 116.46 has held up again three tests in the past seven sessions. The latest move comes with an improvement in momentum. A break above 118.35 will be important now, with confirmation coming above 118.75.
- Watch for: US CPI
Gold – A close above $1098 or below $1077 for the next directional breakout
- Safe haven flows have become lighter in recent days. The Gold/Silver ratio is once more back towards 80 which is a level where historic highs start to come in, so could this result in a mean reversion between the two metals approaching?
- The old pivot levels at $1077 and $1098 are again key. A close beyond either is likely to provide the next directional breakout, especially considering it would also signal the end of a consolidation phase.
- Watch for: China news, oil moves and the performance of the US dollar
Oil – A close back above $30 would help confidence
- The reassurance of Chinese growth, and the IEA holding a steady demand outlook for 2016 has provided support. Has the Iran supply increase already been priced in? Also can Iran meet the expectations of a return of supply to the market? This could trigger support for oil. If the move above $30 can be sustained this could generate confidence again and that could induce a short squeeze.
- The break below $30 opened projections of $27 for Brent Crude which has all but been achieved before today’s rally. On WTI there is a key pivot at $30 which has been tested intraday and a close back above would be the first positive sign for weeks. WTI key resistance at $31.75/$32.10.
- Watch for: China news and the performance of the US dollar
Indices – Big support levels have held for now
- S&P 500 – Positive banks earnings have done nothing for Wall Street as focus has been on China and oil. The intraday spike on Friday to a new 15 month low held on for now and with the momentum towards oversold levels there could be a rally. A move above 1950 is needed to suggest the bulls are serious about a recovery.
- DAX Xetra – The market rally needs to put together a sequence of positive days to seriously begin to build confidence again. With much overhead supply it is going to be a tough job for the bulls. A move above the reaction high at 10,164 is needed realistically for a serious turnaround.
- FTSE 100 – The technical rebound off the crucial support at 5768 needs to continue and move above the resistance at 6011 for a serious improvement in the chart. The sequence of lower highs and tendency for rallies to be sold into will be tough to shift though.
WATCH OUT FOR THIS WEEK
Tuesday 19th January
- New Zealand – CPI
Wednesday 20th January
- UK – Unemployment and Average Weekly Earnings
- US – CPI
- US – Housing Starts and Building Permits
- Canada – BoC monetary policy
- US Crude Oil Inventories
Thursday 21st January
- Eurozone –CPI (final)
- Eurozone – ECB Monetary Policy
- US – Philly Fed manufacturing
- US – Weekly Jobless Claims
Friday 22nd January
- Eurozone – Flash Manufacturing PMI
- UK – Retail Sales
- Canada – CPI
- US – Flash Manufacturing PMI
- US – Existing Home Sales
Monday 25th January
- Eurozone – German Ifo Business Climate
Tuesday 26th January
- US – Case Shiller House Price Index
- US – Richmond Fed manufacturing
Wednesday 27th January
- Australia – CPI
- US – New Home Sales
- US Crude Oil Inventories
- US – FOMC monetary policy
- New Zealand – RBNZ monetary policy
Thursday 28th January
- UK – GDP (Q4 preliminary)
- US – Durable Goods Orders
- US – Weekly Jobless Claims
- US – Pending Home Sales
- Japan – CPI
Friday 29th January
- Japan – BoJ monetary policy
- Eurozone – Flash CPI
- Canada – GDP
- US – GDP (Q4 Advance)
- US – Michigan Sentiment (revised)