US yields rebounded yesterday and major indexes sold off yesterday as markets priced in a disproportionate amount of Federal Reserve (Fed) interest rate cuts next year based on a soft landing scenario. All eyes are on the US jobs data for some comfort…that may or may not come.
Male cat
Financial markets felt the aftereffects of yesterday's November rally. The week began with a downward correction in many stock and bond markets, while a sharper-than-expected fall in US factory orders, weak growth in UK retail sales due to Black Friday discounts failed to boost sales and an unexpected fall in Australian company profits Last quarter could have given further impetus to central bank dovishness and interest rate cut bets around the globe. But they didn't do that. The two-year Treasury yield jumped to 4.66%, while the 10-year Treasury yield rose back to 4.30% on recognition that the Fed's rate-cutting bets may have gone a little too far and that perhaps it's time was a correction. As a result, the S&P500 fell a bit near its year-to-date highs and we saw a major sell-off in the interest rate-sensitive Nasdaq, which lost 1% yesterday. Stocks also fell in Europe, but initially reached a new high since the summer before Americans depressed sentiment.
In currencies, the US dollar jumped above its 200-day moving average and in metals, gold sold off more than $100 after hitting a new high at Monday's open. The market's knee-jerk reaction to yesterday's gold rally was so intense that it made me think twice about the possibility of a significant short-term rise in gold prices above $2,000. The value of gold is negatively correlated with US yields because gold does not pay interest. Therefore, if US yields continue to fall, there will be a natural appetite to hold gold. But if yields rise – which is my base case after such a rapid and significant decline in November – then the cost of holding non-interest-bearing gold will rise and its value should fall.
Data monitoring
Investors don't have much time to think about the past and make digestive trades. We will have a flood of new and important economic data – including US jobs data – that will help the market take a new direction. Either weak data will support the Fed's rate cut bets, or robust data will add uncertainty and volatility to the market. In this context, JOLTS data is expected to show lower job growth in the US in October. However, note that the US labor market was hit by strikes last month. The negative impact of last month could turn out to be positive for this month, and the latter could ultimately cloud the view on the health of the US labor market.
Currently, markets are pricing in a Fed rate cut next year of about 125 basis points, which is obviously significantly lower than the Fed expects its interest rate to be by the end of next year. The Fed's optimism seems to be overwhelmed, risk assets were in overbought territory until yesterday and we need enough soft US data to keep the bears asleep, otherwise a hot gust of wind could easily wake the bear from its slumber.
Elsewhere
The Reserve Bank of Australia (RBA) left its key interest rate unchanged at today's meeting and warned that further tightening may be necessary depending on the data. Governor Michelle Bullock says inflation in Australia is more “homegrown” than related to the supply chain, and if inflation remains stubborn, more rate hikes could be on the cards for Australians. Yes, but we already knew that the RBA would sound somewhat hawkish, so AUDUSD was unable to benefit from the RBA's accompanying hawkish statement, instead the pair fell due to a broad-based recovery in the US dollar. USDJPY remained offered at the 100-DMA level despite weaker-than-expected inflation data in Tokyo and disappointing sales of 10-year Japanese government bonds. EURUSD, on the other hand, fell just below its 200-DMA and tested the 1.08 support to the downside yesterday. Declining inflation in the Eurozone and the slowing economy in Europe are strengthening the European Central Bank's (ECB) moderate expectations. Today, Eurozone PPI data for October and final services PMI data are likely to show a further decline in producer price inflation and a continued decline in activity in the zone, as Eurozone GDP figures – due out on Thursday – are likely will confirm a decline of 0.1% in the last quarter. EURUSD sees support near 1.0800/1.0820, which includes the 200-DMA and the major 38.2% Fibonacci retracement in the October-November rally. But breaking this support – which shouldn't be a big deal if the US dollar corrects further – should pave the way for an extended sell-off towards 1.0730.
Whatever
The sell-off in crude oil continues. Barrels of U.S. crude slipped just below $73 a barrel this morning as oil bears completely ignored Saudi Energy Minister Abdulaziz bin Salman's warning that production cuts could “definitely” continue beyond the first quarter if necessary ignored. At this point, OPEC would be better off waiting for the dust to settle. Seeing no response to threats is worse than watching prices fall. The prospect of a global economic slowdown will likely help oil bears reach their target of $70 a barrel, continuing a solidly building negative trend.
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