Quarterly Outlook
Macro Outlook: The US rate cut cycle has begun
Peter Garnry
Chief Investment Strategist
Summary: Risk sentiment continued its bounce off recent lows yesterday, with the comeback extending overnight in Asian hours as the US dollar weakened and as longer US treasury yields edged lower after Fed Chair Powell testified before the US Senate in his nomination hearing yesterday. That brought gold higher, with the precious metal eyeing local resistance ahead of the latest US CPI number today, which is expected to show a new multi-decade high in inflation.
What is our trading focus?
Nasdaq 100 (USNAS100.I) and S&P 500 (US500.I) - Nasdaq 100 futures rallied 1.4% yesterday closing above the 100-day moving average as we alluded to yesterday would be the critical sign of significant rebound. In Nasdaq 100 futures the 15,906 level is the 50% retracement level based on the selloff that started on 28 December and with the futures trading around the 15,860 level US technology have almost recovered half of the decline. The next big level is around 16,084. Our theme baskets such as e-commerce, payments and bubble stocks were the three best performing baskets outside crypto. If the US 10-year yield fails to push firmly above 1.8% we are likely to see equities stabilise and beginning reacting to the upcoming Q4 earnings season.
EURUSD - is trading up against the range resistance just below 1.1400, an area that was twice touched previously during a very rangebound patch of activity since late November. If the US CPI release later today fails to further boost US rate expectations after a string of recent hawkish Fed surprises (which largely failed to impress EURUSD traders anyway) and risk sentiment stays stable, there may be room for the price action to squeeze higher toward at least 1.1500.
Crude oil (OILUKMAR22 & OILUSFEB22) reached the highest close since November 11 yesterday after Fed chair Powell sparked a broad rally by saying the Fed could fight inflation without hurting the economy (see below). In addition, the API reported another weekly drop in US stockpiles while omicron fears continue to fade with Brent and WTI prompt spreads signaling increased tightness. The EIA in its monthly STEO (Short Term Energy Outlook) lowered its production estimate for this year to 11.8 m b/d while also forecasting production would reach a 12.3m b/d record in 2023 on shale growth.
Gold (XAUUSD) rose as bond yields and the dollar dropped after Fed chair Powell sought to reassure the market (see below). His comments drove gold higher and close to unchanged on the year even though ten-year real yields trade around 0.25% higher during the same time. As we argued yesterday, with almost four rate hikes prices in with the first expected in March and US CPI for December (due today) expected to reach 7%, traders have started to wonder how much worse, from a gold price perspective, data and expectations can get in the short term. Key resistance at $1830 with a band of moving averages offering support in the $1802-07 area.
US Treasuries (IEF, TLT). Treasuries rebounded yesterday after finding support from a solid three-year note auction. The bond sales stopped through by 0.4bps, with a bid-to-cover of 2.47x, above the six weeks average of 2.42x. Indirect bidders rose to 61.6%. Despite the Federal Reserve’s plans to begin with an interest rate hike cycle as soon as March, investors were attracted by the yield offered, which was the highest offered in the auction since February 2020. Flowing the bond sale, the yield curve bull flattened slightly with 10-year yields dropping to 1.73%. We expect a repeat of the same during today’s 10-year bond sales despite the yield offered by EUR-hedged US Treasuries falling slightly from the beginning of the week’s high at 0.99% but remaining one of the highest in fivex years. Before the auction, the focus will be on inflation readings. Overall, we expect yields to remain in check and to adjust slightly lower by the end of the day.
German Bunds (IS0L). As US Treasuries stabilize, we can expect German Bunds to follow suit as the correlation between the two is near to 1. However, today, the German DMO is going to sell 30-year Bunds, and it will be key to see if investors' demand will be supported despite the recent rise in yields. Last year, several bund auctions ended up being a technical failure, forcing the DMO to close the bond sale before the offering volume was reached because of low demand. Yet, Bund valuations remained supported because the ECB is the biggest buyer of Bunds.
What is going on?
China’s December PPI moderates to still high +10.3% year-on-year, versus +11.3% expected and versus the cycle high of +12.9% in November. December CPI there eased to +1.5% year-on-year, suggesting that inflation in China has chiefly been a production-side development, although consumer demand and activity there have been disrupted by serial covid-restrictions as the country pursues its “zero tolerance” policy on covid.
US Fed Chair Powell testified in his nomination hearing before the US Senate yesterday, and said the Fed will act to fight inflation, also indicating that a quantitative tightening is likely to begin this year (in which the Fed reduces its balance sheet) because of the underlying strength of the US economy. The questioning and tone of the hearing was mostly calm, save for pointed remarks from progressive Senator Elizabeth Warren as she demanded an answer to an inquiry into Fed officials’ trading scandal and questioned Powell on the risks of continued high inflation due to monopolies’ pricing power. Fed rate expectations eased back slightly lower after extending to new highs for the cycle yesterday.
Kansas City Fed’s Esther George calls for quantitative tightening early in the Fed’s tightening cycle. She is a voting member of the FOMC this year and said that “with inflation running at close to a 40-year high, considerable momentum in demand growth, and abundant signs and reports of labor market tightness, the current very accommodative stance of monetary policy is out of sync with the economic outlook.”
Just Eat Takeaway sees big miss on Q4 orders. The European food delivery business has seen its share price decline by 64% since its peak in October 2020 driven by difficulties maintaining profitability amid surging competition. The company is announcing that Q4 orders were £274mn vs est. £295mn suggesting market expectations are still too high.
Philips reports disappointing preliminary Q4 revenue figures. The Netherlands-based industrial company is reporting preliminary Q4 revenue of €4.9bn vs est. €5.2bn blaming the miss not on demand, but on supply chain constraints in semiconductors.
Semiconductor constraints are impacting PS5 production. Sony announced this morning that the semiconductor constraints are still severely impacting PS5 production and that PS4 will continue throughout 2022.
UK Prime Minister Boris Johnson under fire for pandemic rule-breaking parties held at his office – with the opposition calling for his resignation and the mood within the Conservative party said to be poisonous, with the risk of a mutiny within party ranks rising due to Johnson’s multiple missteps and as Labor began overtaking the party in the polls in late November, with a current lead of around five points. The situation certainly doesn’t seem to be weighing on sterling, which is perched at recent highs versus the US dollar and the euro.
What are we watching next?
US December CPI set for release later today. Today sees the release of the December US CPI data, which is once again expected to show a new multi-decade high with a reading of +7.0% year-on-year for the headline and +5.4% YoY for the core, with the month-on-month pace expected at +0.4%/+0.5%, respectively. Given that the steepest acceleration in inflation and oil prices unfolded in the spring months of 2021, many observers are expecting a near term peak in the pace of inflation, but it is worth noting that supply side and labor disruptions continue, not least due to the omicron virus variant, and labor markets the world over are extremely tight, risking a wage-price spiral as virus impacts fade.
A potential market moving day across the grain and oil seeds sector with a major data dump on tap from the US Department of Agriculture. At 17:00 GMT it will release three reports: the monthly WASDE (World Agricultural Supply and Demand Estimates), quarterly stocks and winter wheat planted acreage.
Earnings Watch – today’s most important earnings release is from Jefferies which will give hints of what to expect in terms of earnings from the large US financials that are expected to report on Friday.
Wednesday: Aeon, Abiomed, Jefferies, Shaw Communications
Thursday: Fast Retailing, IHS Markit, Delta Air Lines, Seven & I, Chr Hansen
Friday: Wells Fargo, BlackRock, First Republic Bank, JPMorgan Chase, Citigroup
Economic calendar highlights for today (times GMT)
0800 – Czechia Dec. CPI
1000 – Euro Zone Nov. Industrial Production
1330 – US Dec. CPI
1530 - EIA’s Weekly Oil and Fuel Stocks Report
1700 – USDA's World Agriculture Supply and Demand Estimates and Quarterly Stocks
1800 – US Fed’s Kashkari (non-voter) to speak
1900 – US Fed Beige BookFollow SaxoStrats on the daily Saxo Markets Call on your favorite podcast app: