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After 2 years and a half above the boom-boost line of 50.00, the first contraction in one of the benchmark bellwether indicators of the US economic health (ISM PMI) has been confirmed, sending the USD lower, even if still under the context of a strong uptrend, as the odds of a 50bp rate cut by the Fed in 2 weeks go up to around 20%. The bullish steepening of the yield curve also sends a troublesome signal as any under-delivery of policies by the Fed will only exacerbate the disconnect between the Fed stance and the market verdict of where interest rate ought to be. A currency that continues to trade at the rhythm of its own drums is the GBP, with the juggeaut of two-way vol dominant as the UK appears headed towards a general election by mid-October as the Parliament is about to take away the Brexit negotiating powers from PM Johnson. The risk environment, when looking at the whole spectrum of sensitive assets (JPY, VIX, US 30y yields, SP500, USDCNH…) continues to communicate the market is acting rather complacent by keeping the AUD so well bid. The opposite is true when analyzing the low levels of the CHF. We know when trading the EUR, expectations over the beefed-up easing package by the ECB has been on the driving seat, but the divergence with the risk profile makes the soon-to-be-tested key support in the EUR index a highly anticipated area where a response to revert the momentum may ensue. Meanwhile, the CAD was taken to the woodshed ahead of what looks like a Wed’s BoC meeting with dovish risks.
The indices show the performance of a particular currency vs G8 FX. An educational article about how to build your own currency meter can be found in the Global Prime’s Research section.
Narratives In Financial Markets
* The Information is gathered after scanning top publications including the FT, WSJ, Reuters, Bloomberg, ForexLive, Institutional Bank Research reports.
US ISM enters contraction period: The US ISM Manufacturing PMI suffered its first contraction since February 2016 after coming at 49.1 vs 51.2 expected. The odds for a 50 basis point cut by the Fed in its Sept meeting has increased to around 20%. By scanning the sub-components, one of the most conceing departments is new orders, which printed its lowest level since June 2012 as the trade war takes its toll. In yesterday’s note, I noted that “the recent escalation in tariffs may have a negative influence in this month’s survey as the majority of responses tend to be submitted late in the month.” Tued out to be a solid hint to pre-position.
The risk-weighted index signals danger ahead: The RWI or risk-weighted index, which accounts for the relative percentage changes in the S&P 500 and the US 30-year bond yields as the truest barometers of equities and fixed-income, exhibits an ugly technical picture, which makes the outlook for high-beta currencies problematic. The rest of risk-sensitive assets, the likes of the JPY index, Gold, USD/CNH, VIX, without exception, radiate out an analogous conceing context for the risk profile.
Fed falling behind the curve as yield curve bull steepens: The bullish steepening of the US yield curve clearly communicates that the US ISM creates a scenario where the market now discounts the shorter-term rates to fall at a faster pace, which essentially implies the Fed will be seen as further behind the curve if not acting by cutting rates more aggressively. The President of the Federal Reserve Bank of St. Louis Bullard is starting to recalibrate once again his view by noting that a 50bp cut would align the Federal Reserve with market expectations, adding the rate is “too high, would be better to get to the right point now rather than in smaller steps”. Bullard, therefore, defends the point of “aggressive” action, which is a more dovish spin from his stance back in August.
Fed dissenter Rosengren sticks to July script: Not so clarifying for the dovish case was the speech by Federal Reserve Bank of Boston President Eric Rosengren, who was one of the two dissenters in the last July FOMC. Fed’s Rosengren prefers to keep the powder dry noting that if risks to the US economy materialize the Fed should cut aggressively, although he considers the economy is not there yet. The way he puts it is that “does not want to use up valuable policy space at this time.” Rosengren believes the US economic conditions remain ‘relatively benign’, hence he is inclined to think there is no need for taking additional policy action just yet.
Cable hit by two-way volatility: The GBP has traded erratically as UK PM Johnson suffered a humiliating defeat (the House of Commons voted 328 to 301 against him) to hand over control of the Brexit Agenda to the UK Parliament with a vote on a bill to block any chances of a hard Brexit due on Wednesday. The new law will require Johnson to request a further extension to the Brexit date to the end of January in case the Oct 31 deadline gets approached with a no-deal as the base case. PM Johnson is ready to call a snap election if Wed’s bill passes. For a general election to be held, two-thirds of MPs would have to approve it, which does not look like the central scenario given the opposition Labor and the leaders of the Liberal Democrats & of Scottish National Party, against it unless the no-deal exit is removed as an option.
US-China further away in trade by the sound beats: President Trump remains undeterred to make any significant changes to the trade policy position against China, implying that the bar to reach a trade deal with China if he wins the next Presidential election will be higher while reminding the EU that tariffs to recalibrate the unfair trade position of the US may need to be considered as well. Trump tweeted “EU & all treat us VERY unfairly on Trade also. Will change!” To make the whole narrative around the US and China relationship more troublesome, Huawei accused the US govement of launching cyber-attacks to its network.
China’s investment in Iran hints no trade deal eyed: Furthermore, China is set to invest $280bn developing Iran’s oil, gas and petrochemicals sectors, which is yet another huge sign that the Chinese are not counting on a comprehensive trade deal with the US and are looking elsewhere as the gradual decoupling from the US continues.
Trump’s number 1 strategy remains attacking the Fed: It’s important to project, as a forward-thinking exercise, what’s the most likely course of action by President Trump amid the poor US ISM print. Will he soften up his negotiating position with China, or will he continue to be fixated on the Fed doing the heavy lifting by applying further pressure? Unless the overall economy or equity valuations deteriorate to test Aug lows, evidence suggests the latter is more likely. On Tuesday, Trump tweeted “Germany, and so many other countries, have negative interest rates, they get paid for loaning money, and our Fed fails to act!” Furthermore, as preparations to celebrate China’s 70th anniversary of the founding of the People’s Republic of China on October 1st roll in, the list of priorities for the Asian giant is likely to temporarily shift.
The RBA keeps its dovish status quo: The RBA left its cash rate unchanged at 1.00% as widely expected, repeating the script that they are ready “to ease policy if needed to support sustainable growth” and that “it is reasonable to expect an extended period of low rates.” In terms of the rationale that keeps them accommodative, the combination of subdued inflation and the outlook for consumption remains the main domestic uncertainties they must tackle with the most urgency. Overall, there weren’t any significant changes to the statement. The fact that they kept the passage of easing further “if needed” gives them the leverage to flex their muscle if required, which is why a number of banks keep calling for another cut before year-end as a real possibility.
Australian Q2 growth not as bad as feared: In other news relevant for AUD traders, the Australian Q2 GDP for Q2 came in line with expectations at 0.5%, which has been taken as a ‘good enough’ print to further propel the AUD in Asian trading. The details suggest the private sector remains very weak, including construction, retail and wholesale trade all weighing. Meanwhile, an improving trend comprises population growth, public spending, and net exports. Yesterday, the Australian balance of payments for Q2, in other words, the trade balance, came with a surplus of AUD 5.9bn, driven by an increase in exports. The headline surplus is the first in almost half a decade. Offsetting the positivism of the data was the retreat in imports as part of the trade balance, but even worse, Australian retail sales for July printed an uninspiring -0.1% m/m vs 0.2% exp.
CAD goes down the elevator: The Canadian Dollar was hammered on Tuesday as the Markit Canada PMI manufacturing dipped below the dreaded boom-bust line of 50.00 by printing 49.1 vs 50.2 last month, the lowest reading since May 2019, while new orders were the lowest since December 2015. Besides, Pelosi, who is the Speaker of the House of Representatives in the US, expressed NAFTA conces to Canadian PM Trudeau about the enforcement of USMCA and Mexico’s implementation of labor standards.
BoC policy decision faces dovish risks: A key focal point for today is the BoC monetary policy decision, which is expected to come with an unchanged rate as data in Canada has proven to be surprisingly robust. However, there is growing conce that the global growth outlook, the loss of business with China after the Huawei CFO apprehension and the softening of domestic demand, which was quite evident in the Q2 GDP reading subcomponents, will soon catch up. This will make the Bank more open-minded to transition from a neutral bias towards a more dovish stand. Therefore, the risk is that the BoC uses the platform this meeting provides to prepare the market for an easing of its policy in the coming months, potentially as soon as October if data worsens.
HK situation poses huge uncertainty: According to Reuters, citing an audio recording of remarks by Hong Kong leader Lam, the unrest has become a national security and sovereignty issue for China, adding that she now has “very limited” room to resolve the crisis and the ball is now more than ever in China’s courtyard for them to decide when is time to up their game.
ECB sources reveal current CB stance: As many as 5 unidentified ECB sources suggest that the ECB is leaning toward a combo of a rate cut, tiering, and reinforced guidance as part of its Sept 12 stimulus. The reports making the rounds also note that a large number do endorse QE but the opposition from some northe states makes it a more thoy issue to agree on. Lastly, sources noted that discussion about ECB stimulus package is still very much open and ongoing.
Recent Economic Indicators & Events Ahead
A Dive Into The Charts
The indices show the performance of a particular currency vs G8 FX. An educational article about how to build your own currency meter can be found in the Global Prime’s Research section.
The EUR index is about to reach a confluent area of support by combining a horizontal level of support (drawn in red) alongside the whereabouts of a 100% projection target. Coupled with the major disjointed movements in the currency against the risk-off weighted line, it is fair to claim that the area should act as a major wall of resistance for sellers to make further leeway. That said, this approach is simply anticipatory and not backed up by technicals whatsoever at this stage. The discrepancy with the risk-off line definitely suggests that the market has been selling Euros in anticipation of higher chance of a big ECB QE package on Sept 12.
The GBP index is going to continue being engulfed by a juggeaut of Brexit-driven erratic volatility, which implies the technicals are secondary as traders adapt and play the headlines. The printing of a major absorption candle below the baseline is a testament of the unclear status on the index. On one hand, it trades below its baseline (13-daily ema) but the technical equation gets complicated to define a bias when you throw into the mix a huge rejection candle as the one seen on Tuesday, which communicates buyers are loading up at perceived cheap prices.
The USD index has failed to sustain the steady buying participation and looks as though its headed towards an area of strong support (former double top), where buying should re-emerge with decisiveness judging by the overall constructive bullish structure of the market. This time, the test of support, if it eventuates, would coincide with the intersection of the baseline, adding to the technical case to be a buyer around that vicinity. What’s more, the risk-off weighted line trades at very rich levels, which should cause demand for safety (USD tends to do well).
The CAD index has been hammered below its baseline with aggregate tick volume picking up to levels matching its last 2-week average. As I wrote in yesterday’s note, “the massive divergence that exists with the risk-on weighted index (orange line) suggests the higher the CAD goes, the more value exists to short the currency at wholesale levels.” Well, the market didn’t wait long. Today’s bias will see technicals on the backbuer and flows determined by the BOC meeting, which I expect to tilt the balance of risks towards a more dovish outcome (CAD downside risks).
The AUD index has been reinvigorated by a ‘status quo’ RBA, coupled with an in-line 0.5% Australian Q2 GDP, enough to keep the buy-side momentum going. There is still room for the Aussie to appreciate until it revisits a key line of resistance about 0.5% from Tuesday’s close. The test of this resistance, if it occurs at all, should present a valuable area to reconsider adding shorts as the divergence with the risk-off line in an epic one not often seen (value to sell). Note, technicals for now are telling us a different story, with buyers in clear short-term control.
The NZD index is not yet making enough technical merits to justify a buy-side bias, even if we are starting to see a change in price action dynamics as the rise from Tuesday saw a pick up in buying participation through aggregate tick volume, alongside the first close within a 1 ATR limit from its still bearish baseline. However, until more upside progress is confirmed, this remains a mere correction in the context of a downtrend with the risk-on weighted line (orange) set to sooner or later draw interest in shifting the flows to sell-side campaigns again.
The JPY index remains in the bullish camp as has been the case for the entire month of August and the few days of Sept. The risk-off weighted line is retesting the trend highs which is a pretty bad omen to be supportive of Yen shorts, only for the short-term brave players. The technicals are not providing any clues that the buy-side action will peter off for now, so I’d personally be very cautious to anticipate weakness in the Yen. If it does debilitate, the baseline about 0.5% below Tuesday’s close has so far represented an excellent buying zone.
The CHF index, as I stated in yesterday’s note, is a market that shows a strong discrepancy between the risk-off weighted index and the current pricing of the index. That’s why I believe there is a significant risk of the CHF attracting buying flows despite technicals not yet offering any signals. Tuesday’s rebound in price saw the index rejected by its baseline, which makes the 5th day of trading below the daily baseline, not seen since mid-July this year.
- Risk model: The fact that financial markets have become so intertwined and dynamic makes it essential to stay constantly in tune with market conditions and adapt to new environments. This prop model will assist you to gauge the context that you are trading so that you can significantly reduce the downside risks. To understand the principles applied in the assessment of this model, refer to the tutorial How to Unpack Risk Sentiment Profiles
- Cycles: Markets evolve in cycles followed by a period of distribution and/or accumulation. To understand the principles applied in the assessment of cycles, refer to the tutorial How To Read Market Structures In Forex
- POC: It refers to the point of control. It represents the areas of most interest by trading volume and should act as walls of bids/offers that may result in price reversals. The volume profile analysis tracks trading activity over a specified time period at specified price levels. The study reveals the constant evolution of the market auction process. If you wish to find out more about the importance of the POC, refer to the tutorial How to Read Volume Profile Structures
- Tick Volume: Price updates activity provides great insights into the actual buy or sell-side commitment to be engaged into a specific directional movement. Studies validate that price updates (tick volume) are highly correlated to actual traded volume, with the correlation being very high, when looking at hourly data. If you wish to find out more about the importance tick volume, refer to the tutorial on Why Is Tick Volume Important To Monitor?
- Horizontal Support/Resistance: Unlike levels of dynamic support or resistance or more subjective measurements such as fibonacci retracements, pivot points, trendlines, or other forms of reactive areas, the horizontal lines of support and resistance are universal concepts used by the majority of market participants. It, therefore, makes the areas the most widely followed and relevant to monitor. The Ultimate Guide To Identify Areas Of High Interest In Any Market
- Trendlines: Besides the horizontal lines, trendlines are helpful as a visual representation of the trend. The trendlines are drawn respecting a series of rules that determine the validation of a new cycle being created. Therefore, these trendline drawn in the chart hinge to a certain interpretation of market structures.
- Correlations: Each forex pair has a series of highly correlated assets to assess valuations. This type of study is called inter-market analysis and it involves scoping out anomalies in the ever-evolving global interconnectivity between equities, bonds, currencies, and commodities. If you would like to understand more about this concept, refer to the tutorial How Divergence In Correlated Assets Can Help You Add An Edge.
- Fundamentals: It’s important to highlight that the daily market outlook provided in this report is subject to the impact of the fundamental news. Any unexpected news may cause the price to behave erratically in the short term.
- Projection Targets: The usefulness of the 100% projection resides in the symmetry and harmonic relationships of market cycles. By drawing a 100% projection, you can anticipate the area in the chart where some type of pause and potential reversals in price is likely to occur, due to 1. The side in control of the cycle takes profits 2. Counter-trend positions are added by contrarian players 3. These are price points where limit orders are set by market-makers. You can find out more by reading the tutorial on The Magical 100% Fibonacci Projection