2022.06.13 Weekly Note

(A pun off the old Oliva Newton-John song)

Last week I have been sympathetic to the point that markets have “adequately discounted Fed policy tightening, or thereabouts.” But last week’s data, namely another hot CPI surprise and consumer sentiment sinking to a record low has caused the market to believe the FED will have to be much much more aggressive.

At any rate, I still believe there is a decent chance of a soft-ish landing and it seems most of my smart/knowledgeable/experienced colleagues are already sold on the idea that a hard-landing is inevitable…

I think my view is still well within reason and this HBR article starts with the same line of reasoning “How much stress can the economy absorb?” and sums up in greater detail the kinds of thoughts I’ve been having in over the past month or so also.

That said, I am not fussed about whether I turn out to right or wrong about the possibility of a soft-ish landing. It won’t be a straight line down and as a short-term trader, my focus is on attempting to take advantage of the kinds of 2–way action we have seen so far this year!!!

NEWSFLOW

INFLATION & CENTRAL BANKS

  • Inflation Hit 8.6% in May — Energy, groceries, shelter costs drive fastest rise in consumer-price index since December 1981 (WSJ); Consumer sentiment hits record low in June as inflation weighs on consumers (Yahoo); Strong inflation, anxious consumers add up to more worries that recession has already arrived (CNBC); Sizzling Prices Complicate Fed’s Inflation-Fighting Strategy (WSJ), Inflation Leaves The Fed With A Smaller Window To Avoid Recession (Forbes), Powell Facing Choice Between Elevated US Inflation and Recession (Bloomberg); Earnings Are Under Threat, Another Blow to Sagging Stock Market (WSJ); Hedge funds struggle in May amid recession fears (Reuters); Larry Summers claims he can prove inflation is way closer to the 1970s than people think — and that a deep recession may be the only way to end it (Fortune).
  • ECB confirms July rate hike plans, raises inflation projections significantly (CNBC); Rate Hikes Could Tip Eurozone Into Recession, Analyst Says (WSJ); EU is on the back foot in inflation fight, ECB is still printing money whereas the Fed and BoE have ceased cash creation (FT); UK Faces Up to a Recession in All But Name as Living Costs Surge (Bloomberg)
  • As Bank of Canada sprints to neutral, bets of recession climb (Reuters); Rhee stresses central banks’ role as inflation fighters, hints at additional hikes (KoreaTimes); Australia’s central bank raises rates by 50 basis points in hawkish surprise (CNBC); RBA Wrongfoots Market With Outsized Hike, Sending Yields Soaring (Bloomberg), RBNZ to Begin Five-Year Exit From QE Holdings Next Month (Bloomberg).

CHINA

  • Surge in China Tech Stocks Kindles Hopes for Sustained Rally (Bloomberg); Chinese tech ADRs rise as end of Didi probe raises hope of easing crackdowns (Reuters); For Now, China’s Crackdown on Tech Seems to Be Passing. But Will It Last? (Barrons).
  • Lockdown Fears Linger as Beijing Says Harder to Control Cluster (Bloomberg), Beijing’s bar-linked COVID outbreak is ‘ferocious’, official says (Reuters), Hong Kong Reports More Than 800 New Covid Cases for Second Day (Bloomberg).
  • US Makes Asia Inroads by Playing Down Need to Side Against China, Washington tries softer touch to counter Beijing’s influence, Defense chiefs present competing visions at security forum (Bloomberg); Taiwan says it’s willing to engage with China in the spirit of goodwill, doesn’t want to close the door (Reuters).

RUSSIA-UKRAINE

  • Russian flags flying over Mariupol (AlJazeera); Russia pushes Ukrainian forces to outskirts of key eastern city (Reuters); Russia turns to Donbas conscripts to fill front lines (FT); Russia destroys bridge over Ukrainian river, cutting escape route (Reuters); Russia says it shot down three Ukrainian war planes (Reuters); Ukraine: Russia said to be using more deadly weapons in war (APnews).
  • Putin appears to hint at further invasions; Zelenskyy says Ukrainian forces holding on in the Donbas (CNBC); Biden says Zelensky ‘didn’t want to hear’ U.S. warnings of invasion (WaPo); UN warns of hunger risk as talks stall over Ukraine grain blockade (FT).

X-ASSET SUMMARY

  • US equities down ~5% last week and eyeing May 20th lows roughly 2.5% lower. DAX and UK FTSE traded to new 2-wk lows while UST futures traded to lows not seen in well over a decade.
  • Energy commodities continues to push new weekly highs, Metals generally trading heavier with the exception of Gold, Food commodities still around recent highs.
  • USD is back to threatening new highs which is less than 1% higher, JPY continues to trade to new lows while all other major currencies have printed a bearish reversal away from prior highs.

EQUITIES

Global equities are looking particularly weak with many having their worst weak since beginning of the year. Asia markets could keep the bearish sentiment going should it decide to catch up as it has missed a lot of the late week US and European sell-off.

I tweeted on Friday, and perhaps to rashly, that SPX could see low 3500’s this week. This was after looking at the above chart that makes an extremely strong technical case for a deeper sell off — 1) where the high’s and eventual rollover occurred, 2) magnitude of the move, 3) back within close proximity of May lows which, if taken out, would expose the 3700 (2sd lower-band) and the 3500 (50-fib) levels.

As the technical picture of US and European indices is more or less the same, I will avoid looking at those charts in detail and focus on the main Asian indices that have largely avoided sell-off:

NIKKEI and KOSPI are faltering in early Monday trade, more than -2% atm…

Hang Seng and Shanghai Composite have been trading well recently as the crackdown on China tech’s appear to be ending the past month.They have however produced a daily sequential 9 count at the 100dma last week.

Asia looks set to catch up with the bearish sentiment from Friday’s CPI and consumer sentiment data. Rate futures pricing in more aggressive tightening as a result (chart further below) and the street is calling for 75bps hike at the next meeting and higher terminal rates.

As touched on in the intro, I think the more likely path is back-to-back 50bp hikes at the coming meetings along with the ongoing QT for the time being, but regardless of whether I’m right or wrong:

  • Sentiment will undoubtedly stay bearish until the Wednesday meeting;
  • Should we get the much expected 50bp, I would be tempted to flip long for the tactical rally into OPEX and beyond;
  • Should we get 75bp surprise hike, I would remain short into OPEX.

RATES

Huge shift up in shorter-end yields from prior week (Purple) with most of the move occurring on Friday (Thursday close in Green).

Fed Funds and Eurodollar futures plunging to new lows, December 2022–2023 spread starting to shift lower again implying more aggressive and earlier tightening.

Top: DXY (Green); Bottom: 10d ROC of NDX (inverted, Blue) and MOVE (Orange)

Bond volatility moving up sharply is likely to lend further support to the USD rally and upset Equities where the 10day rate of change in MOVE index tends to lead the NDX.

COMMODITIES

  • Energy continues to drag the overall commodities complex higher and is not showing signs of letting up due to structural shortages in the global market.
  • Agricultural commodities continue to trade sideways since rallying +26% ytd in March, +30% ytd by May, and currently around +24% ytd.
  • Precious metals recovered the weeks losses to finish positive.

I’m short Gold from Friday highs as well as the open this morning as I find the this rally to be suspect given its intermittent relationship with Real Yields:

Gold seems to be behaving more like an inflation hedge recently, especially when that inflation sentiment is a bad one like it was on Friday. Though it has been largely disconnected from the move in yields so far this year, it does tend to catch up even for a short while and I expect the pressures from the surging yields and USD will expose it to a move back to the 1800 handle.

CURRENCIES & TRADE IDEAS

  • My core FX positions are in EURCHF and GBPCHF shorts which I’ve begun to build in the Tuesday session. Simply put, the SNB has been slowly changing their tone and inflation and it is becoming increasingly unlikely they will be able to stick with their dovish policies with inflation accelerating in recent months. Further, there has been numerous research from the banks in support of the CHF which I find compelling enough to support my bearish EUR and GBP RV view:
Goldman Sachs
UBS
  • I’m also easing into core long NOK positions vs EUR and SEK but at a slower pace and smaller bite sizes due to current market risks. NOK has taken quite a beating recently and looking fairly cheap considering Energy prices are rebounding higher supporting higher Terms of Trade and domestic inflation pressures, thus keeping Norges bank on their toes.
  • Was short Cable last week and took profit on a 2.5 handle move. I have resold some 70pips lower from that exit this morning as I see a further 1 handle move lower.
  • Staying short Nasdaq and Gold as touched on above.

Have a good week trading!

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