Both sides of the aisle
The big picture
The market is caught between fears of a second Covid-19 wave and improving data.
Financial conditions are easing and the early June surveys have improved markedly, but with US case counts on the rise and small clusters registering globally, investors remain jittery. And they’ll probably so until a vaccine is in hand.
US equities were weaker Friday. The S&P closed 0.6% lower with the virus yet again driving sentiment. A stronger open was erased after Apple announced it would re-shutter 11 stores across North Carolina, South Carolina, Florida and Arizona out of an "abundance of caution" as it evaluates local infection rates.
With second wave fears filling the headlines and refusing to go away – and despite the enormous amount of stimulus which may continue to float the market – investors are finding it hard to get away from the fact markets aren't considering the longer-lasting impact of the outbreak, be it on growth or employment. In other words, the re-emergence of Covid-19 is providing a sombre reality check that’s not only thwarting bullish ambitions but causing investors to re-enter on the negative economic consequences that could linger for some time. The re-emergence of the virus (or prolonged stay, depending how you view it) is certainly not easing those Main Street fears.
The speed and size of the fiscal response to the downturn have helped to cushion households through this downturn, but if the virus continues to spread consumers will feel unsafe to leave their homes. In any case, store closures and possible government-mandated lockdowns will hamper consumers' ability to spend that money and they could yet again bring large sections of the US economy to its knees.
Given it’s a reasonably quiet but backloaded docket, the week ahead focus will remain squarely stateside where the most unsettling economic tail risks exist. On the US economic calendar, Thursday's initial jobless claims data will be incredibly valuable as that data gives a high-frequency peek into the state of the labor market. Last week's data only showed minor improvements in both initial, as well as continuing, claims, suggesting labor market progress may be stalling since May's blockbuster jobs report.
But will investors look to Tuesdays PMI data for support?
Will the bulls find some solace in the PMIs?
The US equity market has proven far more resilient (and rebounded more quickly) than most investors had expected. There’s no marginalizing the economic damage wrought by the coronavirus outbreak and the subsequent shutdowns, but the data is improving.
One of the most prevalent discussions continues to present itself: PMIs/ ISMs are rising (fast), and there’s likely to be more fiscal and monetary policy.
If we get a decent print for this week's PMI, bulls’ tongues will start wagging and fund managers will need to ask themselves if their portfolios reflect a world where, in three months’ time, PMIs move above 55 and central banks and governments are adding more to the punchbowl.
Dr. Copper never lies
If you ask Dr. Copper, the answer might be that the global economy is recovering fast.
Copper prices have risen for the last five weeks in a row and Reuters reported on Friday that copper inventories in warehouses tracked by the Shanghai Futures Exchange (ShFE) dropped to their lowest level in 17 months as Chinese demand continued to recover after coronavirus-led restrictions were lifted. Copper may be the signal that investors are looking for to back up their belief the global economy is indeed on the mend.
Gold moved modestly higher in Asian and European trading but was up more robustly in US trading, fueled by Covid-19 infection concerns. The shutdown of an abattoir in Germany on Thursday seemed to impact markets, and there was late news that Apple would close some stores in the US because of the increase in infections which also aided gold.
Gold has moved more towards center-stage since the onset of the Covid crisis and this is resonating with investors. A story on Reuters points out that even as equity markets recover, many wealth advisors recommend clients consider gold for its safe-haven qualities. The article stated that the percentage allocation to bullion that many private banks are urging clients to hold had risen notably since 2019. Much of the reason for the shift is not necessarily due to an expectation of price rises, but for wealth preservation.
But, ultimately, the yellow metal remains supported by the most gold market-friendly Fed of all time with negative rates, yield curve control and monetary financing all on the table.
It was very summer-like on Friday.
The lack of a strong trend to markets at this stage might have more to do with a confusing set of cross-currents between reopening optimism and second wave Covid-19 fears than anything else.
Asian currencies mostly traded sideways until seeing reports that China plans to step up purchases of US farm goods and this put a slightly better risk-on tone. My view remains the same: a risk-on bias with USDIDR the favorite USD shorts.
The Ringgit was caught between improving oil prices versus a combination of more supply slippage and comments by the Finance Minister downplaying further monetary easing which led to a backup in Malay bond yields. With the market having priced out any easing from the BNM from the short end and the Ringgit trading relatively stable, there should no need to cut bullish MYR bets but instead wait for the next positive catalyst.
The INR has the most significant retracement potential. The current account is set to move into surplus, carry-vol is healthy and FDI flow momentum has been strong. Still, continuous RBI intervention has limited FX gains.
G-10 currency markets
FX markets started in a languid mood on Friday but the dollar turned as the market turned risk-off as US Covid-19 case count rise and small pockets of infections pop up globally where the virus was thought to have passed.
The Pound has stayed under pressure on the weekend as GBPUSD was walloped by data showing the UK's debt to GDP ratio has spiked above 100%.
The Euro folded on Friday as traders miscalculated a lack of consensus that emerged from a video meeting of European Union leaders who kicked the coronavirus can into July.
The bearish pivot for the Australian dollar happened on Thursday. The US dollar was trading firmer last week despite an 'up' week for equities, which shows the greenback can decouple from equities, having exhibited a robust negative correlation since mid-May. Fading correlations between equities and FX are a warning sign that currency drivers are changing.
Developing health crises could have broader implications for credit markets as Covid-19 case counts are surging in underdeveloped countries which are, both financially and health-care wise, ill-equipped to handle the rising case counts. Those high carry BRL, ZAR, MXN could struggle, suggesting it might be a lousy time to be picking up nickels in front of the steamroller.
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Soaring US yields trigger the wrecking ball effect as yields become a source of volatility for risk, rather than a source of support