A Dovish Draghi And Bond Market Rally

Originally published by AxiTrader h2 Market Summary (7.30am)/h2

Stocks and US 10-year rates are both lower this morning after retail sales in the US whiffed a little overnight with the third consecutive fall in the headline number. At -0.1% retail sales in February missed estimates of a 0.3% increase by a mile. Worse still January’s number was revised down to a fall of 0.1% as well.

That and the real chance that the Trump administration is actually going to prosecute a trade war – India is the latest target this morning the Commerce Department announced – has combined to see a continuation of the risk aversion we saw emerge earlier this week.

That bonds are lower – despite the PPI result (0.2%, 2.8%) suggesting upstream price pressures - is also a function of a material downgrading of Q1 GDP expectations by US investment banks and the Atlanta Fed’s GDPNow guesstimate which fell from 2.5% to 1.9% overnight. So the 10 year Treasury rate is at 2.82%, just a couple of points above the low for the day which is also roughly the low for the past 6 or 7 weeks as well. The market is very short and the risk is of a substantial rally. Yes, rally – not a typo.

The S&P 500 closed near the low for the day of 2,746 trading just a few points higher at 2,749 and looking under pressure. That level here is just a few points above important FIbo support. It’s down 0.57%. The Dow is down around 1.0% and the Nasdaq 100 is off just 0.1%.

On balance, Europe had a down night. But the DAX managed to squeeze into the black with a 0.14% gain. The FTSE was 0.09% lower and the CAC dipped 0.18%. Stocks in Milan were assailed by the Italian political scene as the differing sides seek to form government – the FTSEMIB fell 1%.

So after losing 0.66% to close at 5,935 yesterday, it looks like it is going to be another down day for the ASX 200 today. SPI traders have currently knocked just 5 points from yesterday afternoon’s close. But let's see how the day flows.

Turning to forex markets and with US stocks and bonds down you’d expect to see a stronger yen – lower USD/JPY – and that is how things are playing out with USD/JPY at 106.30, down 0.25%. But in that scenario, you’d expect the Aussie to be lower as well. Not today though. The levitation continues and actually became so extreme the AUD/USD traded to a high around 0.7915 last night. Go figure. It’s at 0.7879 at present, still defying logic and up 0.28% on the day.

Elsewhere the euro is a little lower at 1.2364, Sterling is largely unchanged at 1.3964, with the kiwi likewise not far from this time yesterday at 0.7334. The Canadian dollar gained a little ground with USDCAD down 0.1% at 1.2953.

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On commodity markets gold is not as strong as you’d expect if risk is really going off. It’s trading at $1,325 which, along with the moves in the yen, Aussie, and kiwi, suggest traders and investors are not yet startled by the bond rally and stocks selloff. Maybe the VIX, trading at 17.23 this morning, needs to break above 20 or perhaps 22.

Base metals and oil had a better day of it over the past 24 hours. That helps the commodity bloc. Copper is up half a percent to $3.1355 a pound, while most of the rest of the complex was also higher. Likewise on the Dalian exchange yesterday iron ore and rebar were higher. And overnight WTI is up 0.3% despite a huge build in inventories of 5 million barrels of crude over the past week. Brent too is up around the same amount with WTI and Brent trading $60.89 and $64.79 respectively.

And folks LARRY KUDLOW, that’s name you’ll have to get used to hearing as he’s been tapped by President Trump to fill the vacancy created by Gary Cohn’s departure. Kudlow is well known in the US as a commentator on CNBC where he hosted the Kudlow report. He’s worked as an economist at the Fed, used to be a Democrat, and served at the OMB in the first term of President Reagan. He’s a walking headline, this should be interesting. Especially for Steve Mnuchin.

On the day ahead we have new motor vehicle sales in Australia. Can the surge continue or is it time for a pullback? Offshore it’s the SNB decision that forex traders will have a little look at before US releases including import and export prices, jobless claims, Philly Fed, and the NAHB housing market index.

• It’s spring in the US and that means it’s time to clean house. At least clean up President Trump’s team at the White House with fresh rumours flying thick and fast that now SoS Tillerson is gone NSA McMaster, and AG Sessions are also on the chopping block. Both of these have been rumoured for some time but in the current environment, the chattering has grown louder. Interestingly, and showing how spiteful the White House can be, there are also rumours that FBI deputy director McCabe who retires this weekend might actually be sacked first. Why does this matter for an investment note?

• TWO REASONS. The first is that the changes at the White House are a sign of growing confidence by President Trump in his ability to do the job. He’s cleaning house with the establishment picks and putting like-minded thinkers around him. That means he is likely to prosecute his plans. Which brings me to the second reason this is important. Trump’s growing confidence – born of success with Tax and hopefully North Korea, among other things - means he is emboldened to prosecute his America First agenda. That means – and this morning’s WTO move on India shows – there is a real risk that a trade war actually breaks out. As I’ve been writing the world is getting smaller and that ultimately can’t be good for growth.

• That’s something OPEC actually highlighted overnight. In their latest report the group said, “the most recent trade-related developments may provide challenges to the growth momentum as global trade has been an important factor contributing to the world economy”. Indeed it might. On the outlook for supply OPEC again upgraded its forecast for increases in supply for countries outside the cartel to an extra 1.66 million barrels a day in 2018 – close to double their expectation just 4 months ago. Put the two together and you’re bound to get lower prices. But despite that OPEC said in its monthly report, “nevertheless, the current healthy momentum in the global economy, together with the efforts undertaken by the OPEC and non-OPEC oil producing countries under the Declaration of Cooperation, is supporting the rebalancing of the oil market fundamentals”. Sounds Panglossian to me.

• Mario Draghi was as dovish as he could be last night signalling that the time to end QE has come but that the inflation outlook is not yet settled enough to guarantee an outcome. That means the ECB won’t raise rates until “well past” the end of the QE program. He wants “further evidence” of prices rising sustainably and in an echo of his “whatever it takes” speech where he stopped the rot in the euro crisis a few years back Draghi has given us a new mantra. He said the ECB will remain, “patient, persistent, and prudent”. The EU 2 year forward 2 year has fallen again. Something someone might want to highlight to the euro bulls and all those dollar bears out there. And yes, I’m short EURUSD – so I’m talking my book.

• Another report on fund flows last night showed money rushing out of US equities. Reuters reports that the ICI said, “$11 billion was liquidated from US-based domestic stock mutual funds and exchange-traded funds (ETFs) during the seven days ended March 7”. Do you sense the change or am I talking out my hat? I reckon we’ve shifted from Buy the Dip to Sell the Rally.

• As you know I love the NAB business survey. But I confess to thinking some of the numbers it showed – particularly employment – seem a little funky in thee latest booming off the charts report. Even the dichotomy between the confidence number which feel from 11 to 9 while everything else seemingly shot to the moon is a warning that something is amiss here. Not a guarantee, just a warning.

• That’s something UBS highlighted in a note saying there is a disconnect between the “soft” NAB survey and the actual “hard” data.

• And so it was that I perused the Westpac monthly consumer sentiment survey yesterday to see if I could the effects – even residual – of the booming business survey. Alas I came away disappointed. While sentiment lifted a tiny bit, and time to buy a house rose, so too did the unemployment expectations index. That means Australians are a little more worried this month than last about losing their job. That impacts consumption – especially discretionary items and services – and it suggests the boom in the NAB employment index from +6 to +16 has yet to filter through to workers.

• And that’s probably why there are so many banks backing off rate hike calls. That and the RBA telling us they are in no hurry. Macquarie was the latest yesterday. But if banks are backing off rate hike calls what the heck is going on in BBSW – Oz short end bank bill rates – which has been under pressure recently.

• Looking at the SPI now and it’s not a pretty picture. The physical ASX was under pressure yesterday and is likely to be so again today. It’s slipped out of the semi-steep uptrend and is targeting a move to the 38.2% retracement level at 5,884.

• Sometimes I get completely out of sync with a currency. Now is such a time with the Australian where I am baffled by the source of the strength which saw it lift to 79 cents two nights ago and then 0.7915ish again overnight. The fundamentals, things like commodity price moves, bond spreads, and risk appetite, don’t seem to support this constant level of support the Aussie has garnered recently. But support is what the Aussie certainly has had and last night’s high was synchronous with the US dollar low in US Dollar Index terms. As the other side of the cross we can never dismiss the US dollar as a driver of the Aussie dollar. But if this mini-bout of risk aversion turns into something more meaningful expect nothing to support the Aussie dollar – especially against the yen.

• Goldman Sachs (NYSE:GS) reckons US dollar weakness is going to persist across the course of 2018. Increasingly that seems to be the consensus among many traders who seem to run a narrative that relative growth and policy stances of central banks don’t matter for the US dollar because it will lose out in a trade war.

• I’ll leave that for another day because today I want to highlight an interesting take on the Euro I ran across last night in a conversation I had. Copenhagen based Henrik Zeberg (@HenrikZeberg on Twitter) shared a chart of the Euro suggesting that we are in the vicinity of a major high before it collapses back to and through 1.00 and all the way in the 0.89 region against the US dollar. I know, I know it seems extreme and I noted that I was short euro but that was one hell of a target. Graciously Henrik took the time to share his rationale.

• So I offer it to you here and note that when consensus is that something is about to happen very often positioning, and the price action already reflects that expectation. Just look at the US 10-year bond trading at 2.8% not 3% or more as many suggested.

• Long term readers will recall I’ve had similar targets over a long term time frame. I say that not to talk myself up because the reality is I stopped talking about them when it was clear I was wrong during this bounce. But this take is interesting. Especially given where Europe, its politics, its growth, and central bank are right now.

• As noted above OPEC basically said that countries outside its control are going to produce enough to soak up increased demand and that the spectre of trade wars is a threat to the very growth in this demand and the overall outlook. That sounds like they are worried. So it is also worth noting that the Saudi Oil company put out what’s been characterised as a strange statement overnight reaffirming its commitment to keep production and export levels down. This is jawboning folks and was clearly aimed to balance out the OPEC report highlighting the risk in supply and demand right now.

• And to a certain extent it has clearly worked. Of course oil is trading in a range at the moment for WTI and mini-wedge for Brent as traders wait for the next big catalyst. For the moment though that catalyst is still absent. Here’s the Brent chart. Key levels for me short term are still $63.40 and $66.20.

Have a great day's trading.

Written By: Axi