A Cautious Fed Sends Equities to Record Highs, Dollar dips

Friday July 14: five things the markets are talking about

Today’s U.S consumer inflation is forecast to have rallied only +1.7% y/y last month. On a month-on-month basis, the core-CPI is expected to rise +0.2% after a +0.1% increase the previous month. Expect the data (08:30 am EDT) to be highly scrutinized, especially since Fed Chief Yellen this week indicated that it’s premature to conclude that the underlying trend of prices is falling short of the Fed’s +2% target.

The ‘big’ dollar continues to remain under pressure in the wake of dovish comments this week from U.S. policy makers, while U.S equities record fresh highs as Ms. Yellen reiterated yesterday her intention to Congress to tighten only gradually. Her ‘less hawkish’ comments also have U.S treasury prices climbing.

Also today, the market will also get a better understanding on how variable data during Q2 translated into corporate earnings when a number of Tier 1 financials stateside (JP Morgan and Citi) report their results.

U.S retail sales (08:30 am EDT) and industrial production figures (09:15 am EDT) are also due this morning.

1. Stocks print new highs

Overnight, Asian equity markets again traded with a positive tone, in line with what was seen with U.S bourses. Nevertheless, trading remains somewhat cautious ahead of this morning’s U.S data.

In Japan, the Nikkei share average edged a tad higher (+0.1%) overnight as disappointing earnings from the world’s third largest apparel retailer, offset gains made after Wall Street pushed higher. The broader Topix added +0.4%, for a +1.1% rise for the week.

Note: Markets in Japan will be closed for a holiday on Monday.

In Hong Kong, stocks rallied for the fifth consecutive session, their best weekly gain in a year, as last week’s correction attracted more bargain hunting from China. The Hang Seng index rose +0.2%, while the China Enterprises Index gained +0.5%.

In China, equities ended mixed for the week, with the blue-chip index closing at a 19-month high, while start-ups had their worst week in 12-months. The blue-chip CSI300 index rose +0.4%, while the Shanghai Composite Index added +0.1%.

In Europe, stocks have opened a tad higher. Flat oil and commodity prices are having little impetus for materials and energy stocks on the FTSE 100. Markets will take their cues from today’s U.S data.

U.S stocks are set to open little changed.

Indices: Stoxx50 flat at 3,527, FTSE -0.3% at 7,388, DAX -0.1% at 12,637, CAC-40 -0.1% at 5,240, IBEX-35 +0.2% at 10,677, FTSE MIB flat at 21.531, SMI %+0.2 at 9.026, S&P futures -0.1%

2. Oil edges lower on high fuel inventories, industry adeptness

Oil prices have edged lower overnight amid high fuel inventories, but remain on track for a solid weekly gain.

Brent crude futures are down -19c, or -0.4%, at +$48.23 per barrel. Week-to-date it’s up +3.5%. U.S West Texas Intermediate (WTI) crude futures are at +$45.93 per barrel, down -15c but heading for a +3.8% gain over the week.

The IEA this week warned that a long-awaited market rebalancing could be delayed due to weak compliance with production cuts among OPEC members.

In its monthly report the IEA issued a stronger outlook for global oil demand, however, with consumption in Germany and the United States increasing in recent months.

But, the report also noted a dramatic recovery in oil production from Libya and Nigeria and a lower rate of compliance by OPEC with its own output agreement.

Gold prices (+0.1% to +$1,218.99 an ounce) are holding steady ahead of the U.S open, as the Fed seems set to only gradually tighten monetary policy, curbing speculation that interest rates would rise more than once this year.

3. Sovereign yields fall on Yellen’s comments

The recent caution from the Fed has managed to take the sting out of a sell-off in the bond market, which had been gathering steam over the past few weeks on rising expectations that the ECB is set to wind down its asset purchase program.

Fed fund futures are now only pricing a 50-50 chance of a rise by December.

Yellen’s “less hawkish” comments this week has seen U.S Treasuries rally in reaction, clawing back a third of their selloff with yields on two-year notes falling to three-week lows, while U.S 10’s is down another -1 bps overnight at +2.32%.

In Europe, Germany’s benchmark 10-year Bund yield is flat, trading atop of its psychological +0.5% and has now given back a quarter of the rise (+0.585%) triggered by last month’s hint from ECB’s Draghi that it was readying to scale back stimulus.

Today’s U.S CPI and retail sales data will be key for fixed income traders in shaping their curves.

4. Dollar losing support

The signal from the Fed this week has managed to drive the “mighty” buck to fresh nine-month lows against G10 pairs.

The latest comments from Yellen and others suggest that interest rates will rise very gently, and that is supportive for high-yielding currencies or “carry” trades. The AUD has rallied +0.3% to a nine-month peak of A$0.7760 and the NZD little changed at NZ$0.7320.

Naturally, the yen (¥113.24) is underperforming against higher yielding currencies.

Currently, the EUR trades little changed at €1.1415, while sterling is up +0.1% at £1.2963 and the loonie is holding steady at C$1.2738 after gaining +1.5% outright after the Bank of Canada (BoC) rate hike Wednesday.

Note: There has been a lot of interest from Europe to own CAD on the crosses, especially against EUR (€1.4546).

5. ECB in preparation phase for tapering

Next week will be a big week for the ECB.

To date, the ECB has been focusing on preparing the markets for a tapering decision – they begun the process by tightening its communication at its June meeting.

The market believes President Draghi will take the next step at the upcoming meeting on July 20. But given the very sensitive market reaction, the ECB is expected to communicate their plans ‘very’ carefully.

Expect Euro policy makers to stress the recent better economic data to justify the policy switch, and to indicate that they would reassess its policy stance in early September, based on new staff macro forecasts.

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