Currency and market analytics by Tickmill UK

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April ECB Minutes Show the Central Bank Doesn’t Know What to Expect
The minutes of April ECB meeting, released on May 22, revealed that the Central bank is eager to deliver more. “Minutes” are worthless they say, because it’s priced in… not the case this time.

Two key things from the report: the ECB is ready to ease credit conditions more and the fact that PEPP remains key policy tool. By the way, PEPP is an emergency “pandemic” program of purchases of private and public sector securities in the amount of 750 billion euros and which will be in effect until the end of 2020. Programs of this kind are usually done in crisis. Their key feature is lowered bar for quality of purchased debt. The key purpose is to directly buy debt of struggling firms and local governments, which are avoided by other creditors because of concerns about creditworthiness. The launch of the program basically leads to the appearance of indiscriminate buyer on the market which hampers market price discovery, leads to excessive risk-taking, etc., but these are considered to be manageable “side effects”. Another issue is that the program has a limit and it will end soon. With current pace of buying the ECB will reach the current limit in September-October. But the minutes, as we see, hinted that extension of the PEPP limit may be on the agenda of one of the next meetings. Given the ECB’s bias to act proactively, the expansion of PEPP may be discussed as early as June.

It is also curious that the ECB for the first time described medium-term uncertainty as radical uncertainty – i.e. risks which can’t be quantified. The Central Bank seeks a solution, experimenting more with preventive policy decisions which tend to cause positive shocks in market sentiments.

The USD index rose at the start of Monday although losing punch later, but it wasn’t about stronger USD: the cause of gains was weaker euro, which has the biggest weight in the index.

IFO index update showed expectations rose higher than expected, but assessment of current situation was worse than expected. A number of survey indicators for May, which we analyzed earlier, where respondents were asked to assess future expectations, turned out to be better than forecasts. This also indicates that a lot of expectations are priced in equities.

On balance, the balance for euro shifts towards more declines with possible test of the lower bound of two-month range:

In Asian markets, attention has been drawn to a rise in the USDCNY reference rate to its highest level since the 2008 crisis. Pressure on the yuan is rising due to capital outflows, and the central bank of China has “officially recognized” this, weakening CNY official rate. Investors are getting rid of Chinese assets because of fear that a new conflict between China and the United States may escalate into a full-fledged financial war. The dynamics of USDCNY over the past two years shows that the mainland yuan depreciated against the dollar whenever Trump threatened tariffs and strengthened anti-Chinese rhetoric. The last episode of the weakening of renminbi probably reflects an anxiety of the same nature:

Accordingly, the demand for risk can get hit from this front as well, which is undoubtedly a positive factor for strengthening the dollar.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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COT Data: Buying Pressure Decreases in Crude Oil, More Sellers Resign
Market players are now sitting tight in crude oil as the price continues to float in the narrow range with key support to sentiments offered by voluntary/involuntary supply cuts. Upturn in commodity markets along with weaker dollar are also reflected in strong performance of EM and commodity currencies. As the bull trend in the oil market ripens, speculators are less willing to support it, shows COT data from the CFTC (weekly data on open positions of speculators and hedgers in the US). Growth of long positions slowed down from the end of April, and in the week of May 12 – May 19, the number even slightly decreased:

The price gain in that week was achieved mainly by continued decline in short positions:

The onslaught of buyers declined due to the fact that fundamental picture of the recovery in demand remains controversial, since the restart of economies follows a conservative scenario, while there is a risk of repeated lockdowns/extension in some countries. However, Russian Ministry of Energy expects that oversupply will disappear in June/July due to faster demand recovery. Drilling activity in the US continues to decline despite favorable price dynamics. The number of operating rigs decreased by 21 to 237. This is 65% less than in mid-March.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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BoJ Yield Curve Control and new Supply of Government Debt. What to Expect from the Yen?
After DXY support at 99 points were damaged on Tuesday due to powerful risk-on move, the currency continues to cede ground on Wednesday. Asian equities posted mixed performance; European stock indices apparently enjoy another day of gains. Gold tries to defend hard support at $1,700 per troy ounce, but hunt for yield seems to be gaining upper hand. The collapse of USD yesterday basically confirmed that the main trading theme in FX space remains “USD vs. risk-on” and all country-specific events affecting national currencies may not be reflected in USD pairs but rather finds its way in crosses. The tug of war between risk-taking and risk aversion camps, where USD seemed to be one of the biggest beneficiaries seems to stay in the market for some time, while volatility, in the historical perspective, remains elevated.

The Japanese government will spend an additional $1.1 trillion to protect the economy, showed government’s budget draft released on Wednesday. Together with the fiscal package of $1 trillion announced just a month ago, the total government spending related to the fight against the virus and recession caused by it will amount to a whopping $2.2 trillion, or 40% of GDP. Only the United States spent more – $2.3 trillion, but adjusting the spending for GDP size, there is, of course, not contest for Japan.

The government’s spending plan for 2020 imply an additional issue of 200 trillion yen of fresh debt. To avoid a jump in borrowing costs, the supply will have to be soaked up by some robust demand. Japanese bond market won’t be probably surprised or spooked by massive debt supply, since there is “omnipotent” Bank of Japan with its yield curve control program. By the way the YCC is probably the most radical degree of bond markets intervention in Central Banks’ practice. The essence of this program is that the Central Bank announces that it is ready to buy an unlimited amount of bonds of a certain maturity at some fixed price. In other words, it guarantees some price. Obviously, this sets a lower threshold for the bond price and also stabilizes it. The main difference from QE program is targeting the bond price, not monthly amount of purchases as in case of QE.

If bond price cannot go below some level it means that the yield to maturity cannot generally rise above some level (hence the name “yield control”). To see how this works in practice, let’s try to see some difference between behavior of prices of 10-year government bonds of the US and Japan according to our reasoning:

And indeed, we see that in the US, where the Fed has not yet introduced this program volatility of the price is much higher comparing to the price of JGB. We can also see the price floor around 100 pts for JGB.

Bank of Japan officially announced in 2016 that it would target the yield on 10-year government bonds in a narrow range near 0%.

Obviously, in the context of the government’s plans to massively expand the debt, the operation of the YCC essentially means a new large-scale QE. I repeat once again that this may not be reflected by USDJPY, but in cross-rates, these expectations, in my opinion, may determine the yen’s medium-term weakness.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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AUDCAD: Can’t Divide the key Level
The trade war draws in new parties while the trend toward manufacturing independence gradually gains traction. This time, Australian exports of coal to China have caught market attention. Soured relations between the two countries can lead to China to putting more emphasis on its domestic coal production and create more barriers to imports, thereby reducing the size of key market for Australian coal.

Earlier, China imposed duties on beef and barley from Australia because the latter called for an independent investigation of origins of the coronavirus. Now the market is digesting the rumors that China Development and Reform Commission (the main planning authority) has ordered state-owned companies in the utilities sector to halt purchases of thermal coal from Australia. It is critical to understand now how much Australia’s coal exports will suffer in quantitative terms and how long it will continue if rumors turn out to be more than just rumors.

Coal exports for heating from Australia plummeted by 41% in the week ending May 24 compared to last week, FT reports referring to data from the transport broker Thurlestone Shipping.

23% of Australia’s coal exports accounted for China (data as of March 2020):

Rumors of a trade war with China pose a risk of weakening AUD. If China really restricts coal imports from Australia, this gives reason to expect that iron ore, the largest commodity export item in Australia, could also fall under the threat of losing key market. The headwinds for the export of iron ore will create a more tangible blow to the Australian economy. Now the risk of such a scenario gives rise to opportunity for AUD to lag behind its “commodity peers”, for example, CAD.

Let’s examine possible technical setup for AUDCAD:

Commentary:

Considering the technical picture of AUDCAD on the daily timeframe, we can see that the pair has been in a state of decline since the end of November 2016. Despite some subjectivity, the indicated trend line touches four price extremes formed in the downtrend. We can also see that the pair touched several times the level of 0.91500, which has established itself as a solid support level. The drop below this level in September last year was held with a relatively small objection from buyers, after which the level was re-affirmed as resistance. During the upward correction from the beginning of March, the pair returned to this level. Given the fundamental expectations for AUD, the trading idea may consist in a short position on the pair with a short stop loss in the area of intersection with the trend line and wide profit target which can be corrected later.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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“Absurd” Employment Situation in the US and Possible Consumption Shock in August
The rally in equities was brought to a halt with mild retracement in the US stocks observed on Thursday. Asian and Europe equities followed suit today, erasing from 0.1 to 1.5%. The driver of declines is largely a precautionary sell-off as Trump is going to lay out a plan today on how he is going to increase pressure on China.

Earlier, Mike Pompeo said that the US no longer considers Hong Kong an autonomous region, which was the first significant reaction of the US government to the decision of China to annul the superiority of local Hong Kong law (regarding security matters) over the national one. Pompeo’s comment seems to look like a standard attempt by an American politician to label an unwanted step by the rival country but given that there is 1992 Hong Kong policy act (which is based on Hong Kong’s autonomy from China), Pompeo’s statement puts under question the future of this law. And this is already far-reaching economic and political consequences. Let’s see what Trump will say today.

JP Morgan Bank analyst Marko Kolanovich, who in early March recommended investors to buy the dip in stocks and then consistently maintained his bullish stance for almost two months, said this week that increased political risks justify limiting exposure to US equities. In other words, the analyst doubts about further stock market rally due to tensions of the US with China. A month ago, Kolanovich forecasted that in the first quarter of 2021, the S&P 500 could renew historic highs.

Initial claims for unemployment benefits rose by 2.12 million, which is slightly higher than the forecast (2.1 million). Since the beginning of sanitary restrictions, the number of applications has reached 41 million. At the same time, continuing claims showed a larger than expected reduction – from 24.9 million to 21.05 million, with a forecast of 25.7 million.

Undoubtedly, some of the workers returned to work, but conclusions about a strong trend in the recovery of employment may be premature – some of the unemployed also receive benefits under the so-called pandemic program, where the number of continuing claims is more than 30 million.

In the analysis of all these figures for employment, unemployment claims, it is important to keep in mind one important point. In the United States, there is a federal program for extra unemployment benefits in the amount of $600 (until the end of July). This means that some unemployed Americans now receive almost $ 1,000 a week. For some industries, in fact, an absurd situation arises where lounging is more profitable than working. A study by the University of Chicago showed that 68% of those who receive benefits now have more income than when they worked, and for 20% of those who lose their job, the benefits will be twice as much as earnings. In other words, workers now have little incentive to look for job, and this can continue until the end of July. The most interesting thing is when the program comes to an end – income will fall sharply, there may be fewer vacancies, and therefore a consumption shock may occur.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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USD: Downside Trend on Pause?
The US Dollar hit a serious obstacle during decline on Monday which apparently helped bulls to gain control on Tuesday. A convenient explanation of this pullback is the process of pricing in the uncertainty related to the Fed’s meeting outcome on Wednesday. The US Central Bank has already signaled that it is unwilling to make “liquidity bazooka” a permanent feature of its policy quickly and quietly reducing bond purchases to a minimum:

… with market participants apparently turning their focus and demand to the repo market:

One way to understand why the FOMC meeting in June can offer really strong support to USD is to notice that macroeconomic situation in the United States has improved significantly since the last meeting, and it may seem that this recovery is becoming less and less consistent with various emergency programs of asset purchases, zero interest rate, credit facilities that the Fed has been rolling out since mid-March. Here we can also include purchases of commercial papers, corporate ETFs, support for the “fallen angels”, credit facility for the so-called “Main Street” (i.e. small firms) which played key role to keep interest rates subdued in corporate financing markets. Robust stock market growth hinges a lot to the expectations that this cheap liquidity will remain in place. Expectations for QT or at least a bit more hawkish stance is clearly visible in the treasuries futures market:

The chances of interest rate hike by 25 basis points at June meeting rose from 0% from early May to 16%. It is reasonable to assume that these expectations are also priced in USD, so if the Fed makes it clear tomorrow that it does not share the optimism of the latest data, this will signal to market participants that the easing bias is still here which is negative for USD. And vice versa.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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China: In a Worrying Sign, Price Growth Stalls Despite Reopening
Whatever China does, it appears that the economy still can’t take off after the reopening. Despite hefty fiscal and monetary support, consumer and producer price inflation have been slowing for the second month in a row. May inflation slowed down from 3.3% in April to 2.4% (2.7% forecast), the weakest price increase since March 2019. What is even more alarming, the price growth for intermediate goods (i.e. raw materials, resources, etc.) fell by 3.7% in May in annual terms (-3.3% in April). This means that producer demand for resources is declining, reflecting the negative expectations of how demand for their goods and services has changed and will change:

A decrease in consumer price level gives a signal to producers to reduce output, which then negatively affects other macroeconomic indicators such as wage growth and volume of capital investments. Which again affects consumer demand and thus inflation.

Chinese stocks reacted negatively to the weaker than expected release of key data, SSE Composite fell by almost half a percent.

Positive news for the oil market was the suspension of oil production in Libya at the largest Sharara field, with a capacity of 300 thousand bpd. As it became known, the armed group stopped production on the weekend after relaunch, although the Libyan National Oil Corporation hoped to reach its working capacity within 90 days.

The API weekly report on US oil inventories showed that inventories increased by 8.42 million barrels, which exceeded market expectations. The increase in stocks usually negatively affects oil prices, as it means an increase in producer activity in the United States. Reserves in Cushing decreased by 2.29 million barrels.

The short-term forecast from the US Department of Energy indicated a lower than previously reported average level of US oil production in 2020 – 11.57 million bpd, against 11.69 million bpd in the previous forecast. Such a forecast followed the revival of US oil sector amid recovery in oil prices. Continuing decline in production reflects the collapse in drilling activity, which will recover more slowly after the 70% drop compared to mid-March.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Key Points from the June Fed Meeting. Decisive “no” to NIRP
Let’s start from the brief recap of the Fed meeting:

• Key rates remain unchanged, monthly purchases of Treasuries and MBS (i.e. QE) will be carried out “at least at the current pace”;
• Federal funds rate will be kept in the range of 0-0.25% for an extended period of time, until the Fed “is confident that the economy has weathered recent events and on the growth path to the target inflation and unemployment rate”;
• According to the median forecast, the interest rate will remain at its current level at least until the end of 2022. Only 2 out of 17 committee members expect a rate hike in 2022;
• None of the officials considers negative rates (there are solid reasons for that).

After the NFP report in May, which shook positions of even the most convinced doomsayers, it was really difficult to eradicate the hunch that the trajectory of US recovery will take the form of V. The Fed yesterday put an end to those suspicions, which become a formal signal for sell-off today.

In my opinion, there are still not enough arguments for the return of the bear market in risk assets. From the standpoint of monetary stimulus, the situation for risky assets not only remained favorable, but even slightly changed for the better (the Fed is clearly ready to do more). The volume of QE purchases will remain at least at the current level (~ $ 20 billion per week), while the expected period of zero rates has increased significantly (and in probability too) thanks to pretty dovish expectations of the committee members. Below is the updated dot plot:

Blue dots indicate the opinions of FOMC members about what interest rate should be in the next two years.

Committee members unanimously agreed that the interest rate should remain at 0 in 2020 and 2021, and only two out of 17 participants thought that it could be raised in 2022. In fact, this is an extremely bearish bias in the policy. But there is little room to expect negative interest rates, as the experiment of Europe and Japan clearly showed how they “bury” the country’s banking sector:

The dynamics of the Covid-19 pace of infections remains generally stable, despite alarming developments in the US states that are gradually lifting restrictions.

Economic growth in the fourth quarter of 2020 was revised to -6.5% YoY, unemployment was revised up to 9% in 2020 which is a worrying sign that may result in some risk-off, especially in procyclical equities in the near term, as the Fed basically delayed expectations of an economic rebound.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Positive eco Data in the US Economy – As Good as Described?
Major US stock indices lost almost 5% on Thursday and the question arises whether this is the beginning of a bear market. The dynamics of key indicators of consumer activity and the US labor market move in positive direction, which justifies the stability of the stock market in the near future, but as will be discussed in the article, state support (and the associated increase in moral hazard) creates the basis for negative surprises in the future, closer to autumn.

Let’s start from Google Mobility data for the US: mobility in retail and recreations is just -21% below the norm, mobility associated with visiting workplaces is -14% below the norm. The trend in both indicators is positive and is due to the fact that the states are gradually lifting restrictions. Earlier, Stephen Mnuchin hinted that lockdowns are too expensive measure to fight the epidemic, hence even a sharp increase in new cases won’t be a clear-cut trigger for a new market sell-off since we won’t be able anymore to use the data as a proxy of the threat of a new lockdown, which undoubtedly would be a major shock for the economy.

Mortgage applications

Mortgage applications have been rising for eight consecutive weeks, outpacing growth in 2018 and 2019:

Undoubtedly, the growth is fueled to some extent by ultra-soft monetary policy of the Fed, as mortgage rates, although reluctantly, are testing record lows.

The dynamics of mortgage applications correlates with consumer confidence, as consumers make decisions based on their financial positions (wealth) and expected future income. Lockdowns basically protected savings because of limited consumption ability. Now consumers are “fooled” by the state support and consumer sentiments are doomed to change erratically because of that. However, while generous social protection programs are in place, no major shifts are expected.

Car sales

Recent data also shows that demand for cars in the US rebounded after sharp decline in April:

In 2009, there was a similar rebound that coincided with the moment the economy emerged from the recession. That rebound probably spoke of a shift in expectations, which often form a turning point in economic activity. The rebound now is probably the “residual pent-up demand” accumulated during the lockdown. But we certainly need more data to confirm this. In my opinion, the same situation as with mortgage applications, state support accounts for much of the rebound.

Labor market. Unemployment report.

It caught off-guard many economists but now, retrospectively, taking into account the latest data on unemployment benefits (negative dynamics in both initial and continuing claims), we can say that indeed, new jobs were partially inflated thanks to the Paycheck Protection Program (the loans de facto became “grants” to firms to save jobs), primarily by small firms which use low skilled-labor (hence low costs of hiring and layoff). The NFIB survey of small businesses showed that 73% of the respondents (small businesses) asked for money and 93% received them. This increase in moral hazard creates very ambiguous situation with jobs; in the future, surprises are possible because if firms face lack of demand, they will be forced to increase layoffs.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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COVID-19 Infection Rate is On the Rise Again. Should You Worry About Market Sell-Off?
Nationwide lockdowns undoubtedly helped some countries to enter a plateau phase in the infection curve, however, as soon as the countries began to lift restrictions, daily cases started to rise again. Despite erratic daily gains, the curve shows a clear upward trend, which started to accelerate around the end of May:

We also see the onset of the fuss about a second wave in the media, but it seems that this is only a continuation of the first wave that resumed growth, after a short pause.

The increase in daily incidence rates of Covid-19 mediates its negative impact on markets through two main factors – the odds of a second lockdown and duration of closed national borders. The experience from the first lockdown showed that this is a painful measure with high economic costs which forces governments to maintain high budget deficits and central banks to keep borrowing costs low. In my opinion, the second lockdown is possible only if incidence rates will create a risk of failure of national health services. Their safety margin is undoubtedly higher now so preventive lockdowns are definitely not a priority measure. While the upward trend in the infection curve is definitely a worrying sign, we still need to see significant acceleration of the trend to start worry about its impact on markets.

Hard Times for Asia

The latest update on foreign trade, production and consumption in Asia provided additional evidence that there is a lasting damage which further reduces chances for quick rebound in activity. Given that there are expectations of V-shaped recovery priced in the market, sluggish economic performance in May suggests there is a serious risk of downside correction for those hopes.
China was the biggest disappointment: industrial production rose 4.4% in May (5% est.), fixed capital investment fell 6.3% (-5.9% est.), retail sales also missed estimates contracting 2.8% YoY (-2% est.).

Dismal figures on India and Indonesia showed the true cost of lockdowns: Indian exports fell 73% in May (-60% in April), unemployment jumped to 24%, and industrial production fell 55%. Indonesia sharply reduced trade with the rest of the world: imports fell 42.2% (-24.55% est.), exports – 29% (-18% est.).

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Fed Initiates Corporate Bond Buying Program – What Does it Mean for Stocks?
The Fed said on Monday that it’ll buy corporate bonds directly from the market and intends to build a wide and diversified portfolio of US companies’ bonds. It was a huge bullish factor for stocks as well as the corporate bond markets which helped to deter sellers and initiate bullish momentum.

What are the consequences of this dovish move? In my view, they can be divided into two types – technical and psychological. Firstly, traders in the fixed-income market will try to predict the Fed’s choice of bonds and front-run the central bank. Secondly, the signal that there can be potentially unlimited demand on the market means that the chances of “getting on the wrong side of the market” are rising for short positions. This then skews the playing field towards bulls. Stable and low borrowing costs means that firms get safe opportunities to raise cheap debt financing and survive the period of low earnings.

Here is how credit market cheered the Fed’s signal of support:

The Fed’s bullish statement helped the S&P500 to defend support at the 3,000 level on Monday, providing an opportunity for buyers to gain control. Expectations of the Fed’s bond market support helped Asian stocks to rebound after the sell-off on Monday, which gained more than 4% on Tuesday. European and EM markets also cheered the Fed decision.

JP Morgan market guru Marko Kolanovich, who called to reduce exposure to US stocks two weeks ago citing rising geopolitical tensions, made a U-turn again calling to buy the dip, similar to the one that we observed last Thursday.

Kolanovich’s bullish stance is supported by two key arguments:
From a technical viewpoint, the sharp correction that we observed last Thursday reduced the feeling of the market being overbought, while at the same time, one of the main risk factors for the rally faded away, namely the tension between China and the United States.

A major source of untapped demand is naysayers of the current rally – hedge funds. For the most part, they refrained from participating in the stock rebound from March. The heads of several investment companies warned that the March rally had nothing to do with investing and was generated by speculative flows. However, given the policies of central banks, which guarantee unlimited support and near-zero rates for a long time (at least 2 years), the range of investment opportunities is narrowing, essentially making stocks the undisputed leader among other asset classes in terms of risk-reward ratio.

Two other major risk factors, according to Kolanovich, are the COVID-19 pandemic and unrest in the United States. As I wrote yesterday, the curve of new cases has gone up since the end of May, but this dynamic does not threaten lockdowns on a national scale. Especially since the government has already gained enough information about the new virus and does not face uncertainty, and the safety margin of national health services is already much higher.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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AUD: Labour Market Data Disappoints in May, Raising Odds for Extended Reversal
Unlike in the US, Australian labor market, to the surprise of many, not even failed to rebound in May, but continued to deteriorate, putting pressure on the RBA to hint about fresh easing measures.

The number of jobs in the economy declined by 227 thousand, with expectations of approximately half less (-125K). The size of labor force has also decreased, as LFPR has fallen from 63.7% to 62.9%, i.e. we see more workers losing hope to find a job and moving out of the labor force. It is certainly not a welcomed development.

Decline in the number of jobs in April was revised to the downside: from -594K to -607K. The number of unemployed has risen to 928K or 7.1%, the highest level since 2001.

Australia, like many other developed countries, has introduced a scheme of loans and grants for the firms which can save jobs, but the effect, as we see, is low, due to significant restrictions on mobility in May. In June, mobility increased, but the government will only move to the third phase of lifting restrictions in July, therefore, for now jobs will continue to concentrate in the low-skilled sector, such as retail.

Central Bank Policy

The RBA said it had no intention of raising cash rate; given disappointing labor market data for May, policy normalization is ruled out not only this year, but most likely in 2021 too. Earlier, RBA head Low stated that the central bank would not want to enter the path of negative rates, but given the attractiveness of verbal interventions ( as the Fed has already proved to us with its “hodgepodge” of “limitless” credit lines, which were enough just to announce), the RBA may also hint that it does not exclude the possibility of negative rates, which may cause a weakening of AUD.

From a technical point of view, the AUDUSD pair erased decline since the beginning of March, having formed a small double top (a pattern often preceding a reversal) in the zone of resistance formed in the second half of 2019:

As a result, the pair may stage a pullback to the nearest level of 0.68, and then to the level of 0.6650 – 0.67, before we can consider purchases again.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Did the US unemployment rate decline because people didn’t want to work?
Higher-than-expected gains in the US initial unemployment claims in June pare down optimism regarding the jump in May payrolls. In the week ending June 13, the number of claims rose by 1.508M (1.3M exp) where the week prior was revised up to 1.566M.

However, the “sticky” behavior of continuing claims is more worrying. Their number declined less than expected – from 20.6 to just 20.54M with a forecast of 19.85M. This pool of unemployed people is fluid – meaning that to get a decline in the number, the stream of new claims (those who extend their initial claims) should be less than the outflow (persons who got the job and move out of the pool). Hence the sluggish decline that we observed last week suggesting that outflow weakened – less than the expected people who have become employed.

There is a solid reason to expect this tendency; the pandemic put constraints on people’s ability to find a job while also decreasing their drive to search at all. In addition, eligibility requirements for receiving the benefits were relaxed significantly. To get benefits, an unemployed person doesn’t have to be in active search for a job, getting laid off during the pandemic is the sufficient condition.

So what?

Obviously relaxed requirements create moral hazard: the unemployed become less interested in looking for a job because their income is insured by the government. In other words, they become disincentivized to do that.

Those disincentivized workers create distortion in the calculation of unemployment rate: they are unemployed and should be counted as such, but since U-3 unemployment measure counts only those who is in active search for a job, demotivated workers are obviously missed! In other words, extended social insurance in such an unusual way underestimates the real number of unemployed and will keep it that way while the state insures income. Extended unemployment benefits are due to end in 6 weeks, so it should not be surprise if we see a plunge in consumer spending and rise in unemployment if government prefers a “rough exit” from this stimulus.

Based on the data on continuing claims, the unemployment rate in the United States may be at least at 14.1% (the official BLS estimate for May is 13.3%) and at most 20% (if we take into account those who receive benefits under the pandemic program).

The data calls for caution about how we should interpret the sharp increase in jobs count in May as the impulse can be short-term and unstable. This conclusion is consistent with the comments of bankers from the Fed. Loretta Mester said that according to her observations, firms are in no hurry to return employees to their jobs. The head of the Federal Reserve Bank of Atlanta Bostik said that after talking with representatives of the restaurant industry, he concluded that 20-30% of restaurants and entertainment venues in the region might not open, and structural unemployment could rise.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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What’s Fed’s swap line? And how does it affect the balance sheet?
One of the first symptoms of the Covid-19 turmoil in March was a global dollar shortage, but an aggressive Fed response helped to avert the credit crunch. One of the side effects of this move was rapid expansion of the balance sheet however, the latest data from the Fed indicated that this trend has started to reverse. Various financial media cited lowering demand for the Fed’s swap lines as the major source of decline. In this article, we will try to figure out what was the exact reason why the balance sheet started to deflate last week.

Let’s start from key definitions. What is the Fed’s swap line? It’s an agreement between the Fed and other central bank on a mutual exchange of currencies for some predetermined period of time. A swap contract involves two transactions (“swaps”) – direct and reverse. The direct swap occurs when the Fed lends USD to the foreign central bank taking foreign currency as “collateral”. Conversely, the Fed exchanges foreign currency back for USD. Since the Fed’s counterparty is usually a large foreign central bank and exchange rate for direct and reverse swap is fixed, the Fed bears no credit or currency risk. A swap line is not free though, the Fed charges some interest on it.

The Fed has been providing short-term and medium-term swap lines for 7 and 84 days.

Direct swap leads to an increase in the Fed balance sheet while reverse swap results in a decline. Ignoring interest income, a swap line transaction with the ECB in the amount of 100 USD will be reflected in the balance sheet as follows:

Moments of time t and t + 1 are the dates of the forward and reverse swaps.

“Waning” 100 USD in the Fed’s liabilities in reverse leg of the swap may look odd because it creates impression that the Fed “destroys” USD. But that’s just how it works! Recall that US Dollars is a liability only for the Fed (asset for all others), so basically destroying USD (selling something on the asset side) the Fed basically “redeems” its debt!

In the table above, we can see which swap line transactions inflate and deflate the balance sheet.

Last week, we saw the news that the Fed’s balance sheet declined for the first time in several months thanks to lowering demand from foreign central banks for the Fed’s currency swaps:

However, it was stated slightly incorrectly, as reduction in demand is not the only source of decline. Let’s discuss why.

Based on the data on operations (https://apps.newyorkfed.org/markets/autorates/fxswap – Operation Results), demand for swap lines peaked in early March. The size of the swap agreements was the highest but started to decline later. The “hungriest” was the Bank of Japan, which borrowed a lot of USD through this credit facility for the medium term (84 days).

Maturity dates for those large March USD borrowings (i.e. reverse swaps) fell precisely for the middle of June. As we have already seen from the analysis above, reverse swaps have a deflating effect on the balance sheet. In other words, the Fed’s balance declined not only because foreign Central Banks reduced demand for currency swaps but also because the turn has come for the largest reverse swaps.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Oil Prices at 3.5 month High as OPEC+ deal Compliance Improves
Oil prices continued advance on Tuesday, Brent gained $2 rising to $43 per barrel, the highest level since early March. Obviously, sentiment in the market remains positive, thanks to the fact that constructive rhetoric from the OPEC, regarding compliance of several participants, has finally appeared.

One of the weak links in the OPEC+ deal is the lack of enforcement mechanism which creates incentives for some participants to deviate.
However, progress on this matter was outlined last week, as individual participants to the agreement began to inform OPEC about how, when and how much they would reduce output. The traditional “hack worker” Iraq and Kazakhstan provided the organization with details of how they would cut output. Nigeria also outlined plans to cap production. Obviously, all this information cements the deal and increases the likelihood that compliance will be high.

Recall that extended version of the OPEC+ deal implies output cap of 9.7 million bpd until the end of July.
Russian energy minister Novak said the $40-50 range is now fair for oil. Although such an oil price is acceptable for the Russian budget, some OPEC members will not be happy if prices stay at this level for a long time (due to the higher oil price set into the budget), so they will probably want more expensive oil. These fundamentally justified disagreements give rise to an interesting situation by the end date of the agreement, as instead of cooperation, a competition may emerge again, pulling producers back into the price war.
Also, API data on US oil reserves are expected today. It is expected that inventories rose 2 million barrels last week. A steady increase in reserves may indicate that low oil prices failed to destroy the US oil sector and it is restoring production along with rising prices.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Gold’s Renewed Momentum Hints Markets are Worried about US Inflation
Gold’s renewed momentum was one of the most notable market events this week, sending price to a new 2020 high:

It looks like bulls and bears argued for two months about the direction as the price stalled in the range between key levels of $1680 – $1745. Finally, sellers capitulated. Last month, around May 18, a failed breakout took place – it is clear that the price failed to gain a foothold above the upper bound.

Now the chances that the breakout is successful are much greater. We can see that there was a rebound from the ex-resistance converting it into support. Also, higher low followed in the price action adding evidence to the truth of breakout. Such behavior tells us that the market has come to consensus about the validity of the breakthrough – sellers realized they made a mistake betting that resistance would hold, buyers became more confident that their decision to buy was right.

Breakout from a range is usually the signal of initiation of a trend. As the gold price quitted 2-month range, the base scenario is now bullish trend with next target at $1800.

The function of gold as protection from falling real interest rate suggests that the driver for the rally could be some upward shift in US inflation expectations. And indeed, one of the inflation expectation metrics (5y5y inflation swap) has risen to 1.62%, the highest level since mid-April:

The breakthrough in gold price (red curve) coincided with the acceleration of inflation expectations in the US.

The market can discount too much inflation risk in the United States, including because of the confidence of the key “expectations-setter” – the Fed, which is confident that the net effect of the coronacrisis and subsequent stimulus is disinflationary. However, data for May on the labor market, retail sales, real estate and car sales slowly prove the opposite.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Infection Spike in Texas and California Creates “Asymmetric” Expectations About new Lockdowns
Large speculators’ bet on the fall of S&P 500 has risen to the highest level since early 2016, shows weekly CFTC update:

The chart shows that net position of large speculators in the S&P 500 futures (long – short positions) has been steadily declining over the past three and a half months and has exceeded -40K contracts. In other words, speculators have been building up short positions for almost the entire period of the “bear rally”. The lack of consensus on the part of professional market participants is certainly alarming.

It should be noted that in the United States the epidemiological situation is exacerbating, which, for example, can be seen from the sharp increase in the number of new cases in California or Texas:

The number of new confirmed cases in Texas

Number of new confirmed cases in California

Naturally, this cannot leave investors indifferent, especially in the light of reports that Texas has already started to “count free beds”. This leads to weakness in the US stock markets relative to European equities, obviously due to “asymmetric” expectations of new lockdowns in the US and in the EU. European stocks are rising today, but expectations for the US market remain negative which is reflected in S&P500 futures loss on Wednesday.

A further decline in US stock indices and strengthening of USD are expected due to expectations that infection spike may continue to gain traction. The bullish view on gold that we discussed in yesterday remains fully intact due to worsening news background.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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US Unemployment Claims: Still no Welcome News in June Despite Rebound in May
Getting ready for the June NFP release, which will probably shed some light on the striking employment gains in May, we continue to keep tab on the behavior of more frequent labor market indicators – initial and continuing unemployment claims in the US. For the fourth consecutive week, a drop in layoffs has been more “sticky” than expected:

Weekly rise of layoffs in June appears to be consistently higher than the forecast. But in time of permanent monetary and fiscal stimulus, bad economic news are good news for the market: the weaker is recovery the more likely is extension of the lost income coverage scheme which expires at the end of July.

Continuing claims declined from 20.3M to 19.5M but WoW changes are not quite consistent with the story of massive rebound after the reopening:

Still, declining number is a good signal because it shows that people are returning to work. However, actual number can be higher this week due to a reporting feature of some states: for example, Florida and California send the data every two weeks and there was no data on unemployment claims this week.

As of June 6, the number of claims for all income insurance programs (unemployment benefits, pandemic payments, etc.) amounted to about 30.5 million. The first important requirement to be eligible for receiving the social payments is that a person have to lose a job during pandemic. However, in order to take into account constraints on job search opportunities arising from the pandemic, the government relaxed another important condition – the need to look for a job. Recall that for a person to be unemployed two conditions must be met – lose a job and be in active search for a work. As a result, a large part of unemployed can be out of reach of BLS precisely because of the flaw in accounting, that’s why the number of people who receive benefits can be more accurate measure of the unemployed than official BLS unemployment estimate. Currently it is 13.3%, while 30.5M claims is about 20% of the workforce.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Will SPX Resume the Rally After the Storm of Covid-19 Headlines?
On Monday, the struggle continues to unfold between positive macro data and signals of the “second wave” which can be challenging to dismiss. Asian markets closed in deep red while European stocks are trading slightly below the opening in response to reports that some US states are reviewing plans to lift lockdowns or partially reinstate them.

A 6% increase in industrial profits in China in May YoY looks like an encouraging macro update, however details of the report show that growth concentrated in technological sector while other sectors lagged behind. In addition, reduced costs accounted for the better part of the profit growth, which of course includes increased layoffs and wage cuts which puts dent on consumer spending outlook in the month ahead.

The COT update from last Friday showed that large speculators sharply reduced short positions in S&P500 futures:

In June, the biggest net short position on S&P500 (long positions – short positions) was around -40K contracts, the lowest level since early 2016. As of last Tuesday, there was a sharp turnaround: the number of bets on decline fell by 28.7K contracts. However, bets on the rally of the index fell as well, albeit slightly, by 2.8K contracts.

Swift liquidation of short positions suggests that some market participants are finally dropping their “second dip” prediction, which in turn adds arguments that we may see the next leg of the rally after proper consolidation near the level of 3000 points. Nevertheless, the rally is currently being hindered by a “storm” of headlines about a second wave of Covid-19 and negative shocks in the form that some states are making adjustments to lockdown removal plans.

As for the other “hot spots” of the Covid-19 pandemic, the accelerating number of new cases in India is striking:

Over the past two weeks, the number of new cases per day has doubled – from 10K to 20K. Growth is concentrated in five large states (Delhi, Gujarat, Maharashtra, etc.), which account for 43% of GDP. Such a development of the situation prompts us not only to revise down the country’s GDP forecast, but also the forecast for oil consumption, as India accounts for 4.81% of world oil consumption (3rd place in the world).

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.

 

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Fed’s Targeted QE Keeps Credit Markets Under Full Control
Despite positive developments in the US economy since the start of lifting lockdowns, Fed Chairman Jeremy Powell reiterated his dismal warning on Monday: extraordinary uncertainty reigns in the prospects for economic recovery. This uncertainty is generated mainly by the fact that economic projections strongly depend on the success of pandemic suppression and the government’s readiness to lend helping hand again in the form of new fiscal injections.

Powell’s statement, in fact, carries a call for taking signals of a second virus outbreak in earnest, but recent explosive growth in the number of new cases in some US states last week failed to convince bulls to ease grip. Optimism, as we see, triumphed after a slight hitch at the start of trading session on Monday: European and American indices closed in green, although the threat of new partial lockdowns in the US loomed on the horizon.

Analysts at Morgan Stanley said that despite the fact that the threat of a second outbreak exists, governments are more attuned to it compared with the first outbreak, they also realized the full power of fiscal “bazooka”, and the Fed, demonstrating unlimited depth of its balance sheet, leaves no chance for development of a credit crisis.
The Fed really hands out credit guarantees on every US credit market, announcing various credit facilities.

Basically, they are all a kind of a targeted QE – depressing interest rates on the markets where the risk of their outbreak (and subsequent spillover to other credit markets if the state is fragile). It should be noted that the program of direct lending of the Fed to small and medium enterprises has not yet been enacted (the so-called Main Street Credit Facility). The program itself is a powerful signal that interest rates for these borrowers will remain at an acceptable level (as well as the market value of their debts), which should stimulate banks to expand lending to this group of lenders.

Disclaimer: The material provided is for information purposes only and should not be considered as investment advice. The views, information, or opinions expressed in the text belong solely to the author, and not to the author’s employer, organization, committee or other group or individual or company.

High Risk Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% and 70% of retail investor accounts lose money when trading CFDs with Tickmill UK Ltd and Tickmill Europe Ltd respectively. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.