Summary: The Asian session saw a significant swoon in risk sentiment for the first time in weeks as Chinese mainland markets sold off steeply after a gap opening higher in their first session after the long holiday closure. This contrasts with US equity markets, which squeezed sharply higher once again Friday as financial conditions continue to ease aggressively ahead of this Wednesday’s FOMC meeting. Will the Fed want to spring a hawkish surprise to make this market take it seriously?
Friday’s price action in S&P 500 futures ended on a high note with the index futures closing at their highest level since mid-September. US financial conditions remain in a negative trend and long-term bond yields are still well in the range and well-behaved leaving little macro headwinds for US equities, except for the warning signals flashing out of the leading indicators. The Q4 earnings season has so far been mixed with big names such as Intel and Microsoft reporting a deteriorating outlook. This week it is all about earnings with the most important to watch being those from Apple, Alphabet, and Amazon reporting late Thursday after the market close. This morning the S&P 500 futures are rolling over from Friday’s highs trading around the 4,063 level which is just above the intraday low from Friday’s session.
After advancing 2.9% in a holiday-shortened trading week, the Hang Seng Index gave back most of the gain from last week on profit-taking as well as disappointing property sales during the Lunar New Year. As of writing, Hang Seng Index lost 2.2%, with Chinese developers and mega-cap internet names leading the decline. Leader developer Country Garden (02007:xhkg) plunging 7.4% was the top loser within the Hang Seng Index, followed by Alibaba (09988:xhkg) which tumbled 7.1. CSI300 gapped higher by over 2% at the open when the Chinese market returned from a week-long holiday but pared most of it and was up only 0.5% as of writing. Auto, defence, electric equipment, and electronics were among the outperformers.
The USD has been range-bound over the last two weeks, but a huge week ahead looms with a slew of key data (ISMs on Wednesday and Friday, the jobs report Friday) and central bank meetings (Fed, BoE and ECB) key catalysts. Any of three scenarios might support a USD comeback this week, at least consolidating some of its weakness over the past couple of months. The primary risk might be a Fed that is in the mood to challenge the market’s complacency and easing financial conditions as the market has priced a deceleration in rate tightening and eventual rate cuts later this year. Secondarily, stronger than expected US data would be a surprise and could boosts the US dollar by driving US yields higher. Finally, significantly weak US data could reverse the wild squeeze higher in equity markets, offering safe-haven support for the greenback. Elsewhere, the ECB may find it impossible to surprise hawkish, while the BoE may be happy to err on the side of dovishness as sterling has bounced back comfortably and energy prices have eased.
Crude oil prices trade softer following Friday’s big drop which left the sector down on the week. An Israeli drone strike against a target in Iran only had a temporary positive price impact with the market instead focusing on signs of increased Chinese demand as the country reopens after the LNY break. Friday’s correction was primarily driven by profit taking from recently established longs after another failed attempt to break key resistance in the $89-$90 area in Brent. Pivotal week ahead with a slew of data and central bank meetings, which will continue the argument between recession and soft landing, driving energy markets. Also focus on the impact of fresh sanctions on Russian esports from February 4 and this week's OPEC+ meeting although no material changes are expected.
Gold ended last week unchanged and has so far traded close to flat during the APAC session. Overall, it remains in a steep bullish trend with local support at $1920 being followed by trendline and 21-day moving average support around $1900. The Israeli strike on targets in Iran had limited positive impact with the market instead focusing on Wednesday’s FOMC meeting for confirmation of a less hawkish 25 bp rate hike as well as Friday’s US job report. Eight consecutive weeks of buying has lifted the hedge fund long in Comex gold futures to a nine-month high of 107k lots (10.7m oz) while total ETF holdings remain flat, the latter a worry as it raises the risk of a correction from non-sticky speculative and technical driven longs.
U.S. yields are rangebound ahead of important event risks this week, including the first week of the month economic data noted above in the USD section, but also over the FOMC meeting this Wednesday. The 10-year yield benchmark continues to coil in the 3.50% area as the yield curve remains steeply inverted and the market predicts a soft landing for the economy and Fed easing beginning later this year.
There are reports of multiple drone strike targeting factories in Iran. Reports state that the drones came from an Israeli airbase in Azerbaijan. Many of the reports are centred around Isfahan, which is a central city that's reportedly home to some military plants, perhaps the ones supplying drones to Russia for the war in Ukraine.
Oz Minerals’ (OZL) quarterly copper output hit a record high in Q4, while it sees higher production over the year again, with slightly less gold production compared to 2022. The miner noted inflation risks in forward guidance, forecasting higher costs in 2023 amid rising power prices, and a higher Australian dollar. This sets the tone for what we can potentially expect from some of Australia’s and the world’s largest miners when they report 2022 results next month. That said, raw material price strength in copper and gold could underpin Oz Minerals’ revenue and earnings, with consensus expecting 19% revenue growth in 2023, and 45% earnings growth. The company recommended shareholders approve its $9.6 billion takeover by BHP.
The wave of layoffs is continuing among technology companies and this morning Philips in the Netherlands is reporting layoffs corresponding to 8% of the workforce in a drive to cut costs to offset weakness across the business and costly recalls in its consumer medical device business.
Copper’s 20% rally since early November has primarily been driven by speculation that the reopening of China will support an overall increase in demand despite recession risks weighing elsewhere. But while that pickup has yet to materialise, thereby exposing copper and other recent highflying industrial metals to a correction, the risk to supply has increasingly become a stickier source of support for copper. Morgan Stanley estimates that close to 7% of global copper production is currently disrupted or at risk, while Chile’s output continues to disappoint.
According to the VAT data released by the State Taxation Administration, sales in consumption-related industries grew by 12.2% during the Lunar New Year holiday from the same lunar calendar period last year. Sales of goods grew 10% and services consumption climbed 13.5% Y/Y. Dining-in spending surged 53% Y/Y. Tourist agency sales soared 130% Y/Y, and tourist hotel lodging was up 16.4% Y/Y. Budget hotel sales increased by 30.6%. Movies’ box office exceeded RMB6.7 billion.
China’s State Council, in a meeting chaired by the outgoing Premier Li Keqiang, pledged to boost domestic consumption as a key driver to support economic growth in 2023. Separately, the People’s Bank of China extended some lending facilities to support investments that reduce carbon emissions, develop clean use of coal, and the transport and logistics industries.
The FOMC meeting this week was meant to confirm the Fed’s further downshift in the pace of its rate hikes with a 25-basis point rate hike and offer few surprises. But the market has lurched into an aggressive back-up in risk sentiment, with easing financial conditions as the market prices the Fed to likely have reached its peak interest rate for the cycle after only another 25 basis points of further hiking after this week’s presumed hike, which would take the Fed Funds policy rate to 4.75-5.00%. The Fed continues to object to the market’s expectation of an eventual rate cutting campaign set to begin by later this year, and it may attempt to surprise somehow on the hawkish side after especially the latter part of the “higher for longer” message from the Fed has been ignored. What does that look like? Difficult to say: a 50 basis point move would be bold but would come as a profound shock to markets. Perhaps the most hawkish message the Fed can deliver on rates would be a refusal to guide for an end of the rate-hike cycle just yet, somehow noting that financial conditions are too easy for it to consider that its policy is sufficiently tight.
Russia's war in Ukraine will accelerate the shift away from oil and gas, with a much sharper decline in demand for fossil fuels seen in 2035, according to BP's annual energy outlook out today. Nations are prioritizing domestic renewable energy sources as a way to boost supply security while also cutting carbon emissions. Still in BP’s most conservative scenario in terms of climate goals, global oil demand would still be around 73 million barrels a day by 2050, only down 25% from 2019. OPEC will continue to gain market shares over the coming years because it has lower costs. The war will also cause global GDP to be at least 2% lower by 2025, compared with the expectation a year ago (from Bloomberg).
The Q4 earnings season kicks into gear this week around 218 companies among those we track during the earnings reporting. The three most important earnings are Apple, Alphabet, and Amazon due to their size in the equity indices and the economy. The first earnings to move markets will be Snap and Caterpillar tomorrow with both reflecting cyclical components in the economy.
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