Federal Reserve Chairman Jerome Powell chose not to dampen the inflation fires
Last night was heavy on surprises leading to plenty of drama. OPEC+ wrong-footed markets by leaving their production cuts intact for another month, delivering a 150,000 bpd increase to Russia and Kazakhstan, with oil prices rocketing higher. Federal Reserve Chairman Jerome Powell chose not to dampen the inflation fires as well. Sticking to his previous guidance that the recent inflation was transitory, expressing comfort with present moves in the markets, and that the Fed was very much focused on assisting the recovery in employment.
US longer-end bond yields spiked, with the 10-year climbing back over 1.50%. The US Dollar rallied impressively while equities and precious metals endured another torrid day. The Nasdaq’s downside breakout is unequivocal now, closing below its 100-day moving average overnight, having fallen through near one-year support last week. The S&P 500 closed below its one-year support line overnight, and the Dow Jones is in danger of doing the same thing.
The rise in US yields apparently being greenlighted by the Fed Chairman will be of some concern in Asia. Most of the region runs direct or dirty pegs to the US Dollar; the rise in US yields means that parts of Asia will be forced to tighten into what is still-muted domestic demand across the region. Either that or allow their currencies to depreciate; an effective tightening if you are running a current account deficit. If you also have large amounts of foreign-denominated debt, the situation becomes murkier still.
Mortgage rates are almost certain to creep higher in Hong Kong and Singapore as a result, but with a vast savings base, the fallout is limited. Philippines inflation rose to 4.70% YoY today, well above the Central bank target and where interest rates are at record lows. Like the Federal Reserve, the BSP is calling the inflation transitory. Let’s hope they are right; otherwise, the outlook will darken for the Philippines yet again. You can add India and Indonesia to the club as well, although foreign-denominated debt is what weighs on my mind there.
Thankfully, any fallout has been limited in Asia thus far thanks to China, which has kept the Yuan firm in a 6.4000 to 6.5000 range this year. If the DM currencies in the Yuan basket take a severe turn for the worse and Dollar strength accelerates, that could all change, and so could the outlook for regional Asian currencies.
China itself may be able to limit the fallout from Wall Street in Asia today. The National People’s Congress is meeting today, announcing targets for the next five-year plan. Already China has announced a 6.0%+ GDP target for this year, having dropped the target entirely for 2020. They have also expressed interest in deepening trade with South Korea and joining the Regional Comprehensive Economic Partnership. (RCEP) Also expected will be announcements on massive investments in technology research to increase self-sufficiency. All will be positive for Asia and may take the edge off the gloom.
Temporary salvation for equity markets could appear tonight in the shape of the Non-Farm Payrolls. Markets have priced in a 170,000 jump in employment, and if the number badly underperforms, bond markets may grant equities a stay of execution. A hefty outperformance will see the guillotine blade drop.
Unfortunately for equity markets, though, the Biden $1.90 trillion stimulus continues to make its way through the Senate, and despite party-line voting and procedural delaying tactics, looks likely to pass relatively unscathed. A massive dose of stimulus thrown onto a recovering US economy will likely result in another spike in yields, with oil’s epic rally overnight fanning the inflationary fire from now on.
I actually agree with Jerome Powell. We see the input cost inflation is non-sticky inflation, dropping out of the CPI calculations after one year. It is also a positive sign that the global economy is recovering, as the US does not have a mortgage on inflationary signals right now. The world was functioning just fine when oil prices were above $100 a barrel, with nary a mention of inflation Armageddon. The world was also doodling along with US 10-years yielding 2.0% pre-pandemic.
Central banks, the ocean of money looking for a home, and every man and his SPAC, will ensure that asset price appreciation will remain on track this year. Unlike 2020, it will not be a linear progression, though, and buy the dip this year might actually mean buying a dip.
Asian equities follow Wall Street south.
A not dovish enough Jerome Powell overnight saw the bond tantrum return, throwing more gloom on an already wobbling equity market. The S&P 500 by 1.34%, the tech-heavy Nasdaq plunged by 2.11%, and the previously steady Dow Jones retreated by 1.11%. US index futures continue lower in Asia, down by between 0.35% and 0.50%.
The picture is a little more mixed in Asia, but still mostly negative. The Nikkei 225 has fallen by 1.50%, with the Kospi down 0.85%. In China, though, markets have reversed an initial selloff and are now in the green. The Shanghai Composite and CSI 300 are both 0.10% higher now, although the Hang Seng is down 1.05%. The China outperformance can be laid at the National People’s Congress door, which has stated it wishes to explore joining RCEP. It is also expected to announce massive investments to become more technology independent.
Elsewhere in Asia, equities remain on the back foot. Taipei has fallen 0.30%, with Singapore and Jakarta down 0.10%, while Kuala Lumpur has climbed after oil prices rocketed higher overnight. Bangkok and Manilla are 0.25% lower. ASEAN markets have recouped early losses on the China RCEP news. Australia’s high beta to Wall Street means that the ASX 200 and All Ordinaries are 1.0% lower today.
With Asia catching a China RCEP tailwind, the fallout has been limited from Wall Street’s falls. It is likely to be a temporary stay of execution, though, and the RCEP glow will quickly fade into next week, especially if US Non-Farm Payrolls tonight provoke another spike in US bond yields.
As I noted yesterday, numerous major indices in North America, Australia and Asia have staged downside breakouts. The downside correction potentially has some way to go, and rallies will be sold into the end of the week.
US Dollar steady after overnight gains.
The US Dollar strengthened markedly overnight as US bond yields firmed after Mr Powell disappointed the doves. The dollar index rose through its 100-DMA on its way to a 0.75% gain to 91.63. Although unchanged in Asia, the index is poised to break resistance a hairs-breath away at 91.65 later today. That would target further increases to 92.25.
Among the majors, EUR/USD has fallen to support at 1.1960, and a close below here tonight signals more losses to 1.1800 next week. GBP/USD fell to 1.3900, with multi-month channel support at 1.3800 still some way off. That needs to break to telegraph a much deeper correction. By contrast, USD/JPY rose 100 points to 108.00 overnight as the US/Japan yield differential widened. Although overnight on a short-term basis, some consolidation here sets the scene for a rally to 110.00 next week.
Both the Australian and New Zealand Dollars broke supports overnight. With commodity prices except for oil in retreat overnight as well, both Antipodeans could potentially fall another 200+ points into early next week.
Asian currencies have given ground to the Dollar overnight but have steadied in Asia along with local equity markets. The PBOC set a much higher USD/CNY fixing at 6.4904 this morning, but the USD/CNY spot has not followed suit, trading at 6.4725. The positive economic noises coming from the NPC in Beijing today, have limited the fallout from the US Dollar rally overnight. Next week, a move above 6.5000 could crack investors resolve on the Asian currency front, with the Indonesian Rupiah and Philippines Peso being the most vulnerable regional currencies.
OPEC+ surprise roils oil markets.
OPEC+ have surprised before, and overnight they did it again. The grouping and Saudi Arabia declined to reduce their production cuts, sending oil markets spiralling higher. Both Brent crude and WTI finishing just shy of 5.0% higher at $ 66.95 and $64.00 a barrel, respectively.
With OPEC+ moving to a monthly assessment schedule, a lot more binary ambiguity has been introduced into oil markets. OPEC+’s decision overnight showed impressive unity and appeared to be a none too subtle warning to markets about making assumptions. Next month’s meeting will almost certainly see further production cut reductions, but the physical demand shortfall will remain at elevated levels for now.
Both contracts have added 20 cents a barrel in muted Asian trading, with local importers again reluctant to chase markets higher in Asia. Brent crude has resistance at the overnight high and double top, followed by $71.50 a barrel. Support is distant between $62.00 and $62.50 a barrel. WTI’s overnight high at $62.00 a barrel is initial resistance. After that, the path is clear to $66.00 a barrel. The now-distant overnight low at $60.55 a barrel is its first support.
Notably, the short-term relative strength indexes on both contracts remain in neutral territory. With no threat from overbought indicators, oil has the momentum to trade higher. What it does mean is that there should be a wall of buyers waiting on any material correction lower, and the corrections will be short-lived. OPEC+ has spoken, and the markets must listen.
Gold looks doomed.
The rise in US yields overnight looks set to doom gold to more losses. Gold fell 0.78% to $1697.50 an ounce overnight, as the rise in US yield spurred a rally in the US Dollar. The higher US bond yields rise from here, the less appealing non-interest-bearing gold appears to be.
The falls overnight leave gold precariously perched above its 61.80% Fibonacci support at $1689.00 an ounce. A weekly close below that level this evening will be a significant bearish technical signal. It will set gold up for deeper losses to the $1600.00 an ounce region over next week.
Gold’s only hope of reprieve appears to be a much weaker than expected Non-Farm payrolls print this evening. That would take the heat out of the bond market, albeit temporarily.
This commentary is kindly contributed by Jeffrey Halley, Senior Market Analyst, Asia Pacific, OANDA