The week kicks off on positive geopolitical vibes as the weekend talks between the US and China went well, and more senior level talks, including Xi Jinping are expected in the next few hours.
Despite this, Asian indices remained mostly sold on Monday, while US futures traded in the negative. It’s certainly because last week was a bit confusing in terms of where the Federal Reserve (Fed) is headed to, after the dot plot showed two more possible rate hikes before the year ends, versus a final rate hike expected in July. Activity on Fed funds futures gives more than 70% for a July hike, and more than 75% for a September hike on fear that inflation wouldn’t slow as much as expected, and that the US jobs market will remain too robust to call the end of the US rate hikes. Fed Chair Powell will testify before the Senate this week and will certainly stick to the Fed’s hawkish stance.
The S&P 500 and Nasdaq both fell on Friday, but the S&P500 ended last week having gained 2.6%. It was the 5th straight week of gains for the S&P500, while Nasdaq closed the week 3.3% higher than where it had started. Both indices are now at the highest levels since last spring, and both are in overbought territory. Volatility continues fading, while any investors questions whether this is the calm before storm.
On good thing is that the Fed’s reverse repo operations are trending lower, as a result of a flood of US bond issuance following the debt ceiling agreement and keep market liquidity sustained for equities.
But the US 2-year yield is headed toward the 5% mark – which is negative for equity valuations, whereas upside potential remains contained at the long end of the curve. And the widening spread means that bond investors continue pricing in recession in the foreseeable future, which is, in theory, negative for equity valuations as well.
Big Tech is responsible for around 80% of the gains in the S&P500 this year due to the AI-rally, but Russell 2000 gives signs of willingness of joining the rally as well. And because there is nothing much encouraging happening on the Fed end, the overall direction of the market, and market mood, will depend on the performance of the Big Tech. And they are now in the overbought market.
Soft Dollar
The US dollar trades below its 50-DMA, as other central banks are as aggressive as the Fed – if not more! The Bundesbank President Nagel for example hinted that the ECB hikes could extend into autumn and may persist beyond September if core inflation doesn’t slow persistently. The EURUSD is back on track for further gains and will likely continue pushing into the 1.10 psychological mark. Price pullbacks are interesting opportunities to strengthen long positions for a further rise toward the 1.12 mark.
Across the Channel, Cable consolidates above the 1.28 mark ahead of the next inflation update, due Wednesday and the next Bank of England (BoE) decision due Thursday. Inflation in Britain is expected to have eased from 8.7% to 8.4%, but the BoE – which has been telling us since a while that these numbers would get smashed by the H2, is now questioning their inflation forecast model – as a clear sign that even they don’t believe that inflation will take the direction their model says it will. The BoE expectations remain comfortably hawkish, with another 125bp hike priced in before the end of this year. The latter could help push Cable toward the 1.30 mark.
In Switzerland, the Swiss National Bank (SNB) is also preparing to hike the rates by 25bp this week to follow the European peers, while in Turkey, the central bank, with its new leadership, is expected to hike the one-week repo rate from 8.5% to 20% in an effort to normalize the monetary policy that has been put to coma since around two years. Normalization will be painful, both for the economy and the lira, and the dollar-TRY will be left to float free from time to time to test the strength of the negative pressure from the market. The USDTRY remains – is kept – steady around the 23 mark, while the upside is the only direction that the pair could take even despite a monstrous rate hike that will hit the fan this week.
 is headed to, after the dot plot showed two more possible rate hikes before the year ends, versus a final rate hike expected in July. Activity on Fed funds futures gives more than 70% for a July hike, and more than 75% for a September hike on fear that inflation wouldn’t slow as much as expected, and that the US jobs market will remain too robust to call the end of the US rate hikes. Fed Chair Powell will testify before the Senate this week and will certainly stick to the Fed’s hawkish stance.){kind=link}