Black Monday

A market perpetually looking for reasons to temper Federal Reserve hiking expectations (so they can buy equities), had those quashed on Friday. US headline inflation accelerated to 8.60% YoY from 8.30% previously, with core inflation holding at 6.0%, slightly lower than April’s 6.2%. That sparked a scramble to reassess Fed hiking expectations, with some calling for a 0.75% hike at this week’s FOMC meeting.

Equities were sold heavily while the US yield curve saw short-dated yields shoot higher while the 10-year to 30-year was also sold. That has left the 2/10-year tenor at just 10 basis points and 2/30-year at just 16 basis points. That is uncomfortably close to flat and with the R-word now on everyone’s lips, we can’t rule out the possibility of an inversion, which markets use as a signal for a recession. The 5/10-year already is.

With higher yields and markets running for cover, the US dollar soared, with the euro getting pummelled along with fellow sentiment indicators, the Australian dollar, New Zealand dollar and the Korean won. Oil has also retreated again today as a US recession is complicated by mass Covid-19 testing over the weekend in Beijing and Shanghai. I’ll say it again, under Covid-zero policies, the virus only has to get lucky once and anyone trying to pick the bottom in China’s growth and equity markets on the basis that China was “one and done” on lockdowns is naïve.

It is turning into a Black Monday in Asia as well after US and European equity markets were pummelled on Friday, as China risks also rise again. US equity index futures have continued their selloff this morning, oil continues to fall, the US dollar has risen as Asian currencies play catchup to Friday’s greenback rally, and Asian equity markets are taking some serious selling pressure.

It is a measure of how quickly sentiment has turned that gold managed to disengage itself from its inverse correlation on Friday, finishing the day higher at USD 1871.50 an ounce. That indicates just how nervous investors out there are now, although I would like to see another positive close in the face of US dollar strength and higher US yields before calling a medium-term low. Given that gold has fallen in Asia, I am not so sure that this isn’t another false dawn for gold bugs.

Perhaps the biggest carnage has been in the crypto space which is on the verge of a reckoning now that the gloves are off around global inflation and the realities of a new world where fixed interest actually pays a yield – albeit one still deeply negative in real terms. Bitcoin fell by around 10% over the weekend, while ethereum was cremated, falling by around 20%. That sell-off also continues this morning and I am wondering if some cross-margining stop losses are going to start washing through real asset classes. Things may get uglier if the pegs on (un)stable coins like tether start becoming untethered.

Today’s data calendar is non-existent, which means markets will be allowed to continue stewing in sentiment and risk aversion. Australian markets are closed today, but looking at the price action around Asia, they may be glad they are.

This week’s centrepiece is undoubtedly the FOMC policy meeting this Wednesday (NYT). I am not sure if Friday’s inflation reading is enough to provoke a 0.75% rate hike, although that won’t stop people from forecasting it. A 0.50% hike is done and dusted, and the crucial point will be what the Fed’s outlook is from here and whether they remain confident about a soft landing. The post-meeting press conference will surely be one of the most exciting of the year.

Elsewhere, China will release its latest Medium Lending Facility rate sometime between today and Thursday. Cutting it from 2.85% would be a surprise (not a huge surprise), as the government remains intent on targeted stimulus and bank lending has already soared after the government ordered the banks to lend more.

The Federal Reserve is not the only central bank with a policy decision this week. The Swiss National bank on Thursday would love to raise rates from -0.75% I am sure, but with risk aversion lifting the Swiss franc and the euro falling once again, it is boxed in. The Bank of England also meets on Thursday and markets are pricing in a 0.25% hike to 1.25%. Talk of 0.50% will come to naught as the BOE has raised the white flag on inflation already.

Perhaps the most interesting one, which is usually the most boring, is the Bank of Japan on Friday. A continuation of the quantitative easing forever and the 0.25% cap on 10-year JGB yields is expected. However, USD/JPY has hit 135.00 this morning and if it reaches for 138.00 this week, the temptation/need to tinker with the JGB yield corridor may become irresistible. Despite all the rhetoric to the opposite recently, I don’t fully discount the mother of all spoofs occurring on Friday. Given the amount of long USD/JPY positioning out there, a slight hike in the JGB yield cap could see an ugly washout, maybe even back to the 130.00 region or lower. Wouldn’t that be something?

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Jeffrey Halley

Jeffrey Halley

Senior Market Analyst, Asia Pacific, from 2016 to August 2022
With more than 30 years of FX experience – from spot/margin trading and NDFs through to currency options and futures – Jeffrey Halley was OANDA’s Senior Market Analyst for Asia Pacific, responsible for providing timely and relevant macro analysis covering a wide range of asset classes. He has previously worked with leading institutions such as Saxo Capital Markets, DynexCorp Currency Portfolio Management, IG, IFX, Fimat Internationale Banque, HSBC and Barclays. A highly sought-after analyst, Jeffrey has appeared on a wide range of global news channels including Bloomberg, BBC, Reuters, CNBC, MSN, Sky TV and Channel News Asia as well as in leading print publications such as The New York Times and The Wall Street Journal, among others. He was born in New Zealand and holds an MBA from the Cass Business School.
Jeffrey Halley
Jeffrey Halley

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