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Weekly look-ahead

By David Morrison  |  03/02/2018 16:12
This article looks at current market moves and what to look out for in the week ahead


Friday brought the latest update on US Non-Farm Payrolls. The headline number came in at 200,000 which was comfortably above the 180,000 expected. However, there were significant revisions to November and December’s numbers which knocked 24,000 jobs off the running total. Meanwhile the Unemployment Rate was unchanged at 4.1% - once again matching the low from 2001. But the key release was Average Hourly Earnings which rose 2.9% year-on-year – its highest level since June 2009 and miles above the +2.6% expected.

The news helped to convince investors that wage growth is finally coming through and eventually feed into inflation. This in turn saw the yield on the 10-year Treasury surge above 2.8% to hit its highest level in three years as traders factored in the possibility of more aggressive monetary tightening from the US Federal Reserve. The dollar rallied sharply - finally responding appropriately to higher US yields.  Yet part of the increase in Average Hourly Earnings was due to a decline in the average workweek. It’s also worth noting that the Participation Rate is low suggesting that the labour market may not be as tight as the headline Unemployment Rate suggests. Earlier in the week US inflation (as measured by the Fed’s preferred Core PCE) came in unchanged from the prior month at +1.5% annualised. This remains a long way short of the Fed’s 2% target.

Janet Yellen chaired her last Federal Reserve meeting and now Jerome Powell takes over. The Fed’s FOMC kept rates unchanged as expected setting the stage for a 25 basis rate hike in March. Meanwhile, soon after the Fed meeting, former Chairman Alan Greenspan caused a stir by claiming that there were bubbles in both bonds and equities. He went on to say he didn’t expect an imminent correction and that the bubble in bonds would “eventually be the critical issue”.
Key events

Monday -             Chinese, Spanish, Italian, French, German, Euro zone and UK Services PMIs; US ISM Non-Manufacturing PMI
Tuesday -             Australian Retail Sales, Trade Balance and RBA monetary policy meeting; German Factory Orders
Wednesday -        Canadian Building Permits; US Crude Oil Inventories
Thursday -            Chinese Trade Balance; UK Bank of England monetary policy meeting and Inflation Report; US Weekly Jobless Claims
Friday -                 Reserve Bank of Australia monetary policy statement; Chinese CPI and PPI; UK Manufacturing Production, Industrial Production; US Wholesale Inventories. 
US corporate earnings include AIG, Allergan, Anadarko, Bristol-Myers Squibb, Gilead, Tesla, Twenty-First Century Fox, Moody’s, Tyson Foods, Walt Disney and Yum! Brands.

Stock indices

On Friday afternoon US stock indices were on course to post their biggest weekly decline since June 2016, straight after the UK’s vote to leave the European Union. But this time round there was been no surprise event which triggered the sell-off. In fact, it comes right in the middle of a particularly strong earnings season and on the back of tax reform which is viewed as unambiguously positive for US corporations.

But there was a catalyst for the sell-off and that’s the increase in bond yields. The yield on the US-10-year Treasury popped above 2.85% after Friday’s payroll numbers - well above the 2.50% and 2.63% “danger levels” cited respectively by bond gurus Bill Gross and Jeff Gundlach. But it’s not just the US that is experiencing a spike in borrowing costs. The past few weeks have also seen a sharp jump in yields in German bunds and Japanese Government bonds. In one respect this points to confidence in the global economic outlook. However, there’s a danger that the current move signals the end of the 35-year bond bull market. If it’s the latter, then investors will have to adjust to the prospect of rising interest rates and adjust their portfolios accordingly. Of course, higher borrowing costs will force investors to cut leveraged positions in everything. So the question now is whether the current equity sell-off is just a healthy bout of profit-taking after such a strong start to the year, or the early stages of a substantial correction.

Friday saw the US dollar stage a well-overdue recovery. The major part of the move followed the release of the January jobs report which showed a sharp pick-up in headline payrolls. The most important element was the increase in Average Hourly Earnings which were up 2.9% when compared to the same month last year. This was the fastest rate of increase since 2009 leading investors to forecast an imminent pick-up in US inflation. Bond yields spiked higher as did the dollar as a higher rate of inflation would suggest that the Federal Reserve may look to raise rates more aggressively this year than previously forecast.

Nevertheless, Friday’s move certainly wasn’t enough on its own to suggest that the current downtrend in the greenback is over. The Dollar Index continues to hover around 3-year lows. This means that key support around 88.00 remains in sight with a break below here opening up the possibility of another lurch lower. Expect any bounce to be met with initial resistance around 90.00.

Correspondingly, the EURUSD remains close to 3-year highs with the next level of resistance coming in around 1.2600. A break above here puts 1.3200 in the frame as an upside target, while a failure could see a pull-back to support around 1.2200 or even 1.2100.

Meanwhile the USDJPY remains in a trading range which began to establish itself between April and May last year. The area around 114.00 has held as resistance since then while support comes in anywhere between 108.00 and 109.00. Last week the pair seemed to be on the verge of testing 108.00 with a break below here opening up the prospect of a tumble back towards 100.00. That kind of move would prove disastrous for Japanese exporters who would really struggle to deal with such yen strength. The Bank of Japan stepped in a couple of times over the past fortnight in an attempt to cap the yield on Japanese Government bonds. But it was unable to weaken the yen to an appreciable degree. Fortunately, Friday’s US jobs data helped to lift the dollar and this saw the USDJPY brake back above 110.00 – a level which previously acted as support.
Crude oil

Last week saw larger-than-expected crude inventory builds. Most significant was the 6.8-million-barrel increase reported by the Energy Information Administration. This was way above the 900,000-barrel increase expected, was the biggest build since March 2017 and also the first rise in stockpiles in 11 weeks. Both WTI and Brent pulled back on the news. Meanwhile, US production is now within 100,000 barrels of breaking above the 10 million barrels per day (bpd) threshold.

On Friday afternoon both WTI and Brent were on course to end the week lower, pulling back from the multi-year highs hit less than a fortnight ago. As pointed out last week, crude oil (in particular the WTI contract) is a great favourite with speculators. This means that a relatively modest move in one direction can suddenly turn into something more substantial, particularly if any specific technical levels are breached. This is particularly the case when speculative positioning is heavily weighted in a certain direction. Going into last week long-side speculative positioning in the WTI contract stood at a record high. This suggested that there could be a substantial sell-off if sentiment suddenly switched to negative from positive. While the OPEC/non-OPEC production cut continues to support prices, speculators rushed to cut their exposure as the dollar rallied and as the stock market sell-off accelerated into the weekend. The question now is whether investors will step back in to take advantage of cheaper prices, betting that the current rally in bond yields is indicative of stronger global growth. But it could be that they stand aside for now to see if prices of WTI pull back further towards support around $62.50/$63.00.
Precious Metals

Gold and silver slumped on Friday following the release of US jobs data. As pointed out earlier, the key number from the report was Average Hourly Earnings which rose 2.9% from a year ago, notching up its fastest rate of increase since June 2009. It was this number which saw the yield on the US 10-year Treasury spike to a 3-year high above 2.85% and this in turn saw equities sell off sharply. Investors are concerned that higher wages will feed through to inflation and persuade the Federal Reserve to accelerate its programme of monetary tightening. But whereas the dollar has previously shrugged off the increase in US yields, on Friday it suddenly snapped out of its torpor and broke higher. This countertrend rally in the dollar fed straight through to gold and silver. Both sold off sharply as investors spurned both as safe havens despite the sell-off in equities.

This was particularly frustrating for precious metals bulls who were rewarded for their forbearance over the last quarter of 2017 with a solid rally since mid-December. Gold came within shouting distance of taking out the multi-year high of $1,375 hit in June 2016. Meanwhile, silver looked as if it was consolidating above $17.20. Towards Friday’s European close silver was holding above a 50-day moving average around $16.75. However, this looked fairly tenuous and a move back to the more substantial support of $16.60 looked probable. If gold holds above $1,330 then it may be able to recover lost ground this week – as long as the dollar rally isn’t prolonged. Below here $1,320 is the next significant support level. 

Any information, analysis, opinion, commentary or research-based material on this page is for information purposes only and is not, in any circumstances, intended to be an offer of, or solicitation for, a transaction in any financial instrument. No representation or warranty is given as to the accuracy or completeness of this information. Any person acting on it does so entirely at their own risk and GKFX accepts no responsibility for any adverse trading decisions. You should seek independent advice if you do not understand the associated risks.


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