There was no need to set the alarm clock on Monday as investors spent another restless night tossing and turning after another gnarly Covid-19 weekend news cycle. That’s not to mention the thought of the Monday morning market blues which likely provided that wake up call anyway.
The S&P e-mini and oil market are opening slightly down this morning. The volume situation is low, suggesting Friday's risk management protocols – which saw a steep decline in US stocks – have adequately positioned investors for the weekend risk. Indeed, investors are getting accustomed to pricing in weekend headline risk which offers them a bit of breathing room at the Monday open to cautiously digest what’s typically a gnarly weekend news cycle these days.
US equities were weaker Friday, the S&P closing down 2.4% after driving lower all day. US10Y yields fell 4bps to 0.64%, oil was down 0.5% and gold up 0.7%. Confirmed coronavirus cases in the United States surpassed 2.5 million on Sunday as the overpowering wave of the infection has caused some second wave states to start re-imposing lock-down measures. For example, the Governor of Texas closed all bars across the state and reduced restaurant seating capacity from 75% to 50%, among other targeted measures announced on Friday.
The continued spread of the virus remains one of the most significant downside risks to the economic outlook, as about 30-50% of GDP comes from counties that have seen worsening Covid-19 trends.
While gauges of mobility have risen over the past few weeks as state economies reopened, this increased mobility likely contributed to the recent pick-up in Covid-19 cases which, in turn, is causing a reversal of mobility trends and a reduction in economic activity, particularly in the hardest-hit states.
Investors need to gauge the potential for renewed lock-downs, but with the steep economic costs of government-mandated lock-downs the bar is set exceedingly high.
Absent widespread government-mandated lock-downs, evolving consumer behavior could prove more compelling. A feature of lock-downs from March through May was a rise in precautionary saving; while the US's rate of savings fell last month, a reluctance to spend in regions and countries where second waves are a concern could stem nascent recoveries in labor markets.
The second wave risk knockdown dovetails nicely with the view that the next few weeks could make for quite an incendiary cocktail.
Alongside quarter-end flows (estimates are around USD100bn equity to sell thanks to recent outperformance), the uncertainty around economic data makes the solidification of traditional top-tier data like ISM (1/7) and NFPs (2/7) more impactful, and that’s before any headlines around July 4th affecting both retail activity and social mobility as the second wave has intensified in many US states.
There’s still so much good news in the price, suggesting that stock markets could remain susceptible to bad news. Given the high level of uncertainty around this week's US economic calendar – and a holiday-shortened data docket that’s packed with notable releases – it suggests the market could tread cautiously.
It’s not much of a surprise to see currency markets opening up quietly.
The global risk-off sentiment caused by rising Covid-19 cases and the announcement of US tariffs on Europe and the UK failed to impact the FX swaps market, the main currencies closing the week with tighter FX/OIS basis and June/July quarter-end turn around 40bp tighter across the board.
Last week was an odd one for the currency market: traders desperately want to sell the dollar but the Greenback seems to be holding up beyond safe-haven appeal amid the uncertainty over global central banks' propensity to add to the punch bowl.
Such concerns were raised following the ECB Chief Economist Philip Lane's comments on Wednesday, June 24th, that the ECB's emergency PEPP program is "not an open-ended phase" of stimulus, and that the "benefits of helicopter money compared to reality are maybe not as large as one might think" (Reuters). This was echoed by the Fed's Robert Kaplan who said that "there is a limit to what monetary policy can achieve," while the Fed's Esther George also said "it might be a while before the dust settles and we gain insight on whether further accommodation is necessary or not".
The focus will shift to quarter-end rebalancing, where most of the action will likely fall tomorrow around 3-5 PM London time. The underperformance of US equities compared to European stocks may result in some USD buying, but flows are likely to be modest. That said, there may be some more significant numbers involved with rebalancing out of equities into bonds (to maintain relative ratios following this quarter's equity rebound). However, some of these rebalancing flows may have already taken place.
Assuming no explosive headlines, I suspect FX traders will hold back, not wanting to add any risk ahead of tomorrow's rebalancing and not wanting to get steamrolled where the FX market tends to turn into an unstable Betty Grable over the month-end fix.
Volumes are subdued as clear directional bias is challenging to find, although top side expression around the Euro and Aussie has fallen off dramatically. The biggest problem right now is things are not moving much in G10 land; only two currencies have moved more than 1% vs. the USD in the past two weeks – NOK and the GBP.
FX volumes feel low to me lately, but it’s particularly challenging to tell if what you’re feeling is real or merely a refection of FX automation where everything’s getting put through the machine these days.
Gold prices remain fairly constructive around risk-on/risk-off swings over the past few weeks, but we could expect some nervousness over the next few sessions due to potential half year-end re-allocations.
When stocks make multi-year highs, CNBC and the mainstream media cheer. When gold or bitcoin make multi-year highs, Twitter goes euphoric. Outside Twitter’s gold-fevered echo chamber, there’s highly sophisticated modeling at work that goes well beyond the low-interest rate or Fed balance sheet expansion bullish for gold narrative. However, the Fed balance sheet expansion (on its own) is probably not a great reason to buy gold since stocks have had a higher beta than gold to past QE, both on and off.
After all, there’s nothing to cheer about when owning gold over the past four months vs. risk as the first thing that pops out is that QE1, 2 and 3 were more bullish stocks than gold. The trajectory of the stock market outperformance follows the expansion of the Fed's balance sheet pretty closely.
But gold has offered up a fantastic comfort blanket for most investors – even more so now as, for most rational investors, it makes more sense to purchase gold over stocks given the incomprehensible high valuations in stocks versus the real economy. Even with the negative carry (SPX 2 % yield), gold continues to offer the best non-USD safe- haven.
However, the lack of inflation poses a difficult question for the gold rally.
The gold price has tracked real 10y yields (inverted) very well. That suggests gold needs real yields to continue to fall for the price to go higher. Either yield doesn’t rise with inflation, or yields must fall faster than inflation. Given inflation is headed lower in both the short and medium-term, gold needs yields to continue to fall this year.
Can central banks get rates even lower? If they can't, this could be a risk to the liquidity-driven rally and gold may be moving from a "heads I win, tails you lose” asset to one which requires a particular confluence of events to sustain the price rally.
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Stocks soar, powered by first-rate earnings and a dazzling run of economic data; Gold plays catch as G10 falls flat while oil basks in the afterglow