US equities danced around record highs but were little changed on Tuesday. However, the S&P500 skewed lower towards the end of the NY session and US treasuries have again sold off, with yields rising around 8bps to 1.85%. In large measure, positive trade headlines have helped sentiment again.
The primary catalyst for the moves is the US considering whether to remove some tariffs on Chinese goods as a concession to securing stage one of the deal. CNY strengthened past the 7 per dollar mark as well, trading at one point as high as 6.9859 per US dollar. Oil is up again with gold weaker.
On the Yuan, the USDCNH has gravitated back to the 7.0 level as a high degree of uncertainty around today’s reference rate fix comes into question. If the "fix" is below 7, it could be time to don the rally cap once again.
Fixed-income traders may take a two-fold cautious approach in the weeks ahead. Yields could get a further boost from the expected US-China deal and could keep fixed income under pressure. And with the Fed completing a mini rate cut cycle and the US economic data robust, there could be a race for state and local government to issue debt at historically low-interest rate levels. So, as the prospect of US interest rates cuts diminishes, the race to issue could mean more paper hits the markets and pushes US yields higher.
The frothy equity market and rising yields have traders paying very close attention to positioning models, trying to quantify where the next pain trade is.
Inside of 2 years aside, price action alone suggests that primary dealers are trading bonds from the short side, so perhaps stops above 2% UST 10y yield may not be such a significant market pressure point and might be unlikely to trigger a taper tantrum. But if you ask any equity jocks, the stock market rally is very much under-owned, so an extension of the recent surge into year-end may produce much more pain than any fixed income sell-offs could elicit.
Why didn't the S&P take out 3100?
The sentiment is extremely optimistic, and it could be that we are nearing the peak of the sentiment wave, and a Phase 1 Sino-US deal is fully priced. So the big question for equity investors from this point forward is: are they confident enough to back up the truck into stock markets with Bloomberg red headlines flashing all-time highs?
Then there’s my favourite quick view sentiment gauge: the CNN Fear and Greed Index. "Investors are driven by two emotions: fear and greed. Too much fear can sink stocks well below where they should be. When investors get greedy, they can bid up stock prices way too far". The index is very much skewed into the greed territory, suggesting there’s far too much froth and possibly not enough volume support behind the current move.
Fed not sidelined??
With equities struggling in the wake of the better-than-expected ISM prints, and given the recent string of robust US economic data, are doubts worrying investors that the Fed might not be sidelined for the foreseeable future?
San Francisco Fed President Daly added her voice to those who think that the Fed is done cutting rates for now. Speaking the other night, she said, "It would take a material change in the outlook for me to think that further accommodation would be required."
The second derivative of economic growth
What if the famous second derivative of economic growth is turning, forcing the hoards of Wall Street recessionary doom and gloomers to recalibrate the end of the economic world as we know it theories out to 2022?
While the latest round of PMIs isn't exactly good cause to pop the champagne corks just yet, things don't look nearly as bad as once thought. Which, for many risk-seeking investors, could extend the current buy signal that was initially triggered by the US-China trade truce that, by all appearances, could last longer than sceptical observers might expect.
Oil prices have continued their decisive run that started last Friday, following supportive macro data and optimism about US-China trade talk progress. But the key is the rollback of existing tariffs which could go a long way to reducing the trade overhang that has pressured oil for over a year.
So far prices have been unshaken by surprise bearish to consensus crude build reported by the American Petroleum Institute as traders could be anticipating the slower US production rebalancing act to eventually self correct the current inventory deluge, while perhaps deferring to the more definitive Energy Information Administration report released later in the week.
Leaving aside the macroeconomic and the trade talk headlines which will continue to influence short term machinations…
Perhaps a significantly bullish view is developing across the 2019-2020 curve, which is the potential for expectations on US supply growth to moderate further and which could be the primary driver of sentiment in 4Q19 and early 2020. There’s clear evidence that US production growth is slowing, and this could be a key rebalancing factor in the crude market, but at a minimum, it could add a significant degree of downside protection to prices.
Gold is struggling to find buyers amid the excellence in stocks and rising US rates. Since the break below the 50-day moving average at $1,503, coupled with CTA sellers reported on the break of $1,494.10, it was a one-way street for the yellow metal overnight suggesting there could be another test of that omnipotent $1,480 level. Once again, the inverse correlation between higher US Bond yields and lower gold prices dominated price action in the NY trading hours.
EURUSD continued to grind lower once the NY session started selling US Treasuries and buying the greenback on the back of higher US yields. So, it appears investors are moving back to the dollar carry where the US dollar is king, and gold is the half-pint.
While the Fed's balance sheet expansion is still on, they also just pivoted from a rate cut bias to neutral, completing a mini rate cut cycle. This neutral Fed Funds posture should offset some of the negative impulses from balance sheet expansion. And while QE usually impacts a currency negatively, this time the Fed is only buying short-dated paper, so you have less duration getting squeezed out of the market. So, when it talks and walks like QE lite, it probably is the QE lite that the Feds have insisted it is all along.
The Malaysian Ringgit
Explosive moves on the Ringgit over the past 24 hours, triggered by trade talk euphoria, has risk-taking investors seeking out undervalued pockets in Malaysia, especially as the domestic fiscal pump continues to resonate.
It hasn't happened in ages where my weekly USD support target has been taken out and then my revised technical USD support target was then breached during the same 24 hours session. But the stars are aligning over Kuala Lumpur: trade talk calm, higher oil prices and a stronger Yuan complete the trifecta of positivity for the Ringgit.
Read more articles from Stephen Innes: https://www.axitrader.com/int/market-news-blog/stephen-innes.
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US equities continue to welcome any high-risk event being put in the rear-view mirror – especially when rates markets look prime to consolidate lower