Summary: US equity markets rolled over for a negative session yesterday after Friday’s blockbuster advance and as US treasury yields rose on mixed US data and a weak Treasury auction. Crude oil advanced sharply again as the G-7 jawboned on intentions to cap prices on Russian energy imports. Volatility is generally seeping out of markets as we head into the heart of the summer, but is this a sign of dangerous complacency? The roll into the new financial quarter on Friday may provide the answer.
US equities were slightly lower yesterday following a worse than expected Dallas Fed Manufacturing Activity print for June hitting –17.7 vs est. -6.5 suggesting economic activity is slowing down faster than anticipated. However, S&P 500 futures are rising this morning trading around the 3,924 level with yesterday’s high at 3,948 being the natural resistance level to watch on the upside. Short-term momentum in S&P 500 futures is still leaning on the upside and our view is that 4,000 is the most likely gravitational point.
Both indices took a pause in their recent advance. Hang Seng Index dropped 0.9% and CSI300 was little changed. Hang Seng TECH Index (HSTECH.I) was off by 1.7%. Tencent (00700) lost about 5% as its largest shareholder, Prosus NV planned to continue to unload its stake in the company. Other mega cap Chinese tech stocks also declined by 2% to 4%. China’s leading electronic appliance retailer, GOME (00493) plunged 12% after share placement at a deep discount. Shares of BYD Electronic (00285) jumped over 11% in anticipation of rising orders from Apple.
The USD situation remains the focus after the currency has traded with no conviction since the June 15 FOMC meeting saw the Fed hiking the most since 1994 with the 75 basis point move. Since then, the market has pulled forward the anticipated time frame of peak Fed funds rate to early next year as it predicts conditions will allow the Fed to ease off by then. The US dollar has only consolidated gently since mid-month, and we watch further developments in risk sentiment and US yields for where the US dollar is headed next. Overnight, the key upside resistance in EURUSD at 1.0600 was tested briefly. The downside focus is on the cycle lows at 1.0350 just ahead of the lows since back in 2003, although tactically, the price action is so bottled up that a close below 1.0500 would suggest some downside momentum. ECB President Lagarde is set to speak at the ECB conference in Sintra, Portugal today.
USDJPY trades above 135.00, eyeing the 136.70 top, although the key driver to take it there would be fresh weakness in global safe haven bonds that takes yields to new highs for the cycle. US treasury yields peaked out more than a week ago and are not adding any fuel to the weak-yen fire. To drive new interesting in JPY upside and pull the focus away from the BoJ’s cap on 10-year JGB yields, we would likely need a more significant adjustment lower in yields elsewhere – for example a sub-3.00% level in the US 10-year Treasury benchmark, which has correlated tightly with USDJPY for the last 18 months.
Crude oil trades higher for a fourth day as the focus continues to switch from demand destruction fears back to supply constraints. News impacting the market being Libya facing more disruptions, Ecuador may shut output on anti-government protests, Iran nuclear talks to resume in Doha today, while UAE’s ruler in a conversation with President Macron said they and the Saudis are pumping close to capacity. OPEC+ meets this week to discuss supply, at a time when several members have struggled to meet their production targets. A sharper rally back above 115/barrel in WTI and 120/barrel in Brent would be needed to suggest that the recent large sell-off wave from the cycle top is merely a consolidation and not a more significant reversal. Specs cut their WTI net long to a 26-month low in the week to June 21 and including Brent the total net long was reduced by 12%.
Gold remains rangebound with current market developments not providing enough oxygen to propel it in either direction. Traders currently must navigate a market focusing on recession fears driven by aggressive tightening by central banks and geopolitical tensions while a plan to ban gold imports from Russia is likely to have a limited impact. As we head into the low liquidity peak holiday period of July and August, the market will continue to take much of its cue from movements in Treasury yields and the dollar. Gold is currently stuck within a slightly downward trending range between $1813 and $1838.
US Treasury yields rose yesterday, in part on a very weak 5-year t-note auction yesterday that was the weakest since 2010, as measured by its awarded yield relative to indications earlier in the day. The bid-to-cover ratio was the lowest, at 2.28 since early 2021. Some of the demand weakness may have been due to an earlier 2-year t-note auction falling on the same day. The US 10-year benchmark yield settled near 3.20%, still not seriously threatening the cycle highs near 3.50%. To the downside, the 3.00% level touched briefly last week is an important area for whether the longer-term outlook tilts more aggressively toward recession fears. Today sees an auction of 7-year T-notes.
BHP shares have risen sharply over the last three days after nearly touching the key 200-day moving average, with a rally in Tuesday’s session of more than 3%. BHP upside could continue on the ASX as it is end of financial year in Australia and BHP shares are down 11% YOY; meaning fund managers may need to top up BHP positions. Secondly, a little optimism came from China this week which has helped the iron ore price rise 4% this week. However, caution remains over the medium term with BHP as its output could be lower than expected given the interruptions from Covid restrictions. Also, BHP may give a dimmer 2022FY outlook. BHP’s operational review is due July 19, and financial results are due August 16.
Many European airliners are struggling with labour shortages, labour strikes, and weak balance sheets with SAS being in the most acute situation. Norway’s government has said it will not contribute to SAS which is seeking more equity financing and a new labour agreement to get to a more sustainable cost structure.
US durable goods data reported last night was above expectations, with the headline rising +0.7% m/m (exp. 0.1%, prev. 0.4%) for May. This has helped to mitigate concerns that we may see a technical recession in Q2. Atlanta Fed's GDPnow model for Q2 was also revised up to +0.3% after the data, from an initial estimate of flat growth which sounded alarm bells for an impending technical recession. This has meant that Fed could proceed with aggressive rate hikes, bringing rates above the estimated rate of neutral quickly. Still, it is important to consider that the durable goods data was backward looking as it was for the month of May, and focus is still on PCE and ISM manufacturing data due at the end of the week.
The US consumer confidence from the Conference Board survey is due in the US today. This metric has held up even as University of Michigan posted ever lower levels, including a record low (for its 44-year history) in June. The University of Michigan arguably focuses more on the inflation/cost of living dynamics, which is hitting the consumer now especially due to the increase in gasoline prices. But the Conference Board survey correlates more close with the strength of the labor market. More details on the two surveys and other activity indicators for the US economy are here. Once we start seeing declines in Consumer Confidence, it will be an indication that slowdown is being felt in the labor market and may raise concerns at the Fed.
After a terrible quarter-to-date for global equities (the first quarter ended on a high note), rebalancing flows may buoy equities into quarter end on Thursday. There is also talk of an enormous option structure (a put spread on the S&P 500) held by JP Morgan with a key strike price in the structure at 3,620 that expires on Thursday, one that some believe has helped to hold up the market as that level approached.
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Head of Fixed Income Strategy
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