A belated good morning from Jakarta where I am on day two of managed isolation and where, unfortunately, my hotel room’s internet ceased functioning last night. Back home in New Zealand, it’s been nearly two months since I looked at the markets closely, but the effects of the pandemic behind the Great Wall of Jacinda have been clear to see and most certainly have played out similarly in other parts of the world.
The ham-fisted quantitative easing by the Reserve Bank of New Zealand has caused one of the greatest wealth transfers in the country’s history as asset prices headed into space. I was also shocked by the increase in the cost of living which can’t just be explained away by "the pandemic."
I have spent the last two months describing New Zealand as Norway prices with Nigerian salaries. Having grossly overheated the economy, the RBNZ now faces the problem of putting the genie back in the bottle, painfully. I expect a 0.50% rate hike this week and some bashful dovish backtracking. February 2022 could be the lowest we see the New Zealand dollar for a long time.
Elsewhere, it appears that the usual "kitchen-sink" trade that usually starts the year has already played out and reversed. By this I mean that in my experience, markets usually walk into the office on Jan. 3, feeling like they need to do "something" to start the new budget year.
With a new budget year, the financial market group-think kitchen sink is then thrown at the trade, which works well for the first month as the herd joins in. That is followed by two to three months of being painfully squeezed out, leaving everyone square and scratching their heads by Q2.
This year the street finally listened to me and decided that rising interest rates, notably by the Federal Reserve, were a reality. The "buy everything" 2020/21 trade promptly tanked; led by stocks, cryptos, EM, and the US dollar rolled over FX markets like a Russian tank lost in Belarus.
Gold and oil went bid and stayed bid, more on that later. The trade ran out of momentum in early February and sure enough, the street appears to have been squeezed out of a lot of it, even before March, leaving many asset classes in a "what now?" state.
I suspect the US yield curves refusal to price in inflation-for-longer is the main culprit, and let’s face it, there is still plenty of cash out there looking for a home as well. Although the US yield curve has moved higher as the reality of a tightening Fed threw buckets of cold water on the "cost of capital is zero per cent forever" gnomes, the long end of the US curve has refused to buckle to the inflation worries.
Duration and liquidity play their part I agree, but 20-year and 30-year yields are still only 27 and 14 basis points higher than February 2021. Someone is going to be horribly wrong here at some stage.
My two months in New Zealand have left me with a sinking feeling that inflation is going to be higher and around longer than the market’s complacency/hope/group-think would have us believe. And let’s face it, a lot of governments could use a few years of inflation to inflate their pandemic borrowings away, nothing written on paper of course. That realization, and an ensuing move higher in longer-dated yields, could be the schism that sees another big leg down in stocks, and crapto’s.
I very much doubt we will see inverse yield curves anytime soon. Nothing the Sackler Family produced has been as addictive as QE to many major central banks, notably the ECB and the BOJ, with the Fed not far behind. What should have been a last resort and tactical policy for global emergencies has become a fait accompli to keep the global asset price party rockin,’ and to allow global investors to never have to take a loss, no matter how dumb the investment decision. I have no doubt that some evolution of backtracking will appear soon thereafter.
Two markets where prices have not retreated to any extent are oil and gold. That likely serves as a warning signal. A rapidly reopening world where Omicron is omi-gone, unless you are Mainland China, Hong Kong, or New Zealand, is supporting oil prices. More open borders, travel and overseas holidays are on the way, virus be damned.
Sadly also, I have been right on the seriousness of Russia’s "exercises" on Ukraine’s borders. Oil is unlikely to fall in this environment and it is a fertile ground for gold as a haven as well—something Russia and China have been accumulating plenty of over the past decade. Gold’s refusal to roll over as global yields rise is a huge signal that many investors are nervous and can’t be explained away by such things as the India wedding season demand.
I have said repeatedly that 2022 would be a year of a lot more two-way price action that would make investors’ honest for the first time in years. The "buy-everything" trade is dead, long live the "buy-everything" trade. That certainly seems to be how it is playing out already and I expect to hear a lot more HODLs in the Reddit forum and crypto space.
In my day, HODL was a handy English footballer, now it's hold on for dear life. There is only one gold element, but seemingly more cryptocurrencies than there are fiat national currencies. They can’t all supplant the current financial system. When I start hearing the word "blockchain" used by the sector, something missing in action for years, I’ll maybe start taking them seriously. In the meantime, the more HODLs I hear, the happier I will be knowing there is just one gold.
By the way, a Russian invasion could be good for stocks. Yes, you’d want to sell everything European as 40% of its gas supply gets cut off, and yes, Brent crude will probably trade as high as $150 a barrel. Gold will make new all-time highs, the US Dollar will leap higher, and equities will get blasted initially.
But on past form, the world’s central banks will immediately respond with a massive easing and a flood of liquidity. If this sounds familiar, it is, have a look at the GFC and March 2020 and the price action that followed.
In the short-term, expect markets to bounce around on Ukraine/Russia headlines. The biggest risk to Russia right now is probably that Vladimir Putin laughs himself to death at the Western response, but any "talks" headlines should spur straw-grasping rallies in markets.
Equities jump on Ukraine talks
US equities closed lower on Friday as heightened Ukraine tensions weighed on sentiment, complicated by a long weekend with the US closed for Presidents' Day today. The S&P 500 fell by 0.72%, the NASDAQ by 1.23%, and the Dow Jones by 0.68%. US yields fell across the curve hinting that US investors preferred safety over risk into the long weekend.
Although it is a US holiday today, the futures markets are open in Asia, and US indexes have jumped into positive territory after the US and Russia agreed in principle to a French brokered summit over the Ukraine. S&P futures were 0.58% higher with NASDAQ and Dow futures rising 0.62% and 0.56% respectively.
Asia has not shared the same positivity though, concentrating on a fragile New York close on Friday and China nerves, with Bloomberg running another excellent story on a wall of China property bond payment and restructuring deadlines this week, and China leaving its one and five-year Loan Prime Rates unchanged today. Property sector nerves will weigh on China stocks this week.
It was a mixed day in Asia with the Nikkei 225 down 0.65%, and the KOSPI 0.15% lower. China’s Shanghai Composite was 1.0% lower with the CSI 300 retreating 0.75% and Hong Kong falling by 0.85%. Singapore edged 0.15% higher while Taipei was unchanged. Australia saw no peace dividend from the full reopening of its borders today. The ASX All Ordinaries climbed 0.05% on M&A headlines, but the ASX 200 closed lower by 1.0%.
European markets will likely seize on US/Russia summit hopes to lift equities to a positive start, however, they will remain at the mercy of headline ping pong around the situation.
US/Russia summit lifts FX risk sentiment
Most of the major currencies appear to be around their year-end levels as the end of the month approaches, having weathered a US dollar storm over the first five weeks of 2022. The prospect of interest rate rises outside of the US, and a stubborn long end of the US curve has seen the US dollar retreat in the past two weeks, as the kitchen sink buy US dollar traded was slowly squeezed out.
Currency markets seemed very much in no man’s land now leaving them vulnerable to intraday swings in sentiment creating much noise, but little direction. The noisiest corner was the Ukraine situation right now, and the in-principal summit agreement between the US and Russia today lifted most currencies at the expense of the US dollar. The dollar index gas slipped 0.30% to 95.80 and dollar losses could continue if 95.50 fails.
Euro and Sterling rose 0.40% and 0.25% to 1.1370 and 1.3620 with resistance at 1.1400 and 1.3650. AUD/USD and NZD/USD both rode the sentiment wave higher this morning, climbing 0.50% and 0.40% higher to 0.7215 and 0.6720. 0.7250 and 0.6750 form near-term barriers.
Similarly, Asian currencies rallied today, although more cautiously. The SGD, THB, PHP, KRW, IDR, and MYR rose between 0.10% and 0.20% with the Indian rupee set to do the same this afternoon. USD/CNY was unchanged at 6.3300 after China left the LPR’s unchanged and with chat of safe-haven status doing the rounds. Fair play with a managed currency and the firepower of the Bank of China.
I will form more cohesive thoughts on currency markets in the days ahead, but nothing I saw today was screaming momentum and breakout. With US markets away and reducing liquidity, traders are unlikely to risk much pain on the short US dollar trade, and the threat of Ukraine headlines meant choppy range-trading was likely to dominate the session.
Oil eases on potential Ukraine summit
A potential reduction of Ukraine tensions following the US/Russia summit announcement this morning saw some sellers emerge in oil in Asia. Oil has had quite the rally in my absence, driven by the predicted Ukraine tensions, and a world economy that appeared to be moving quickly towards living with Omicron.
Middle East OPEC members continued to reiterate that the grouping’s 400,000 bpd monthly increments will be adequate to ensure supply to world markets, further supporting prices at these levels.
Both Brent crude and WTI were sitting roughly mid-range for the month, with Brent falling 0.60% to $93.10 in Asia, and WTI dropping 1.05% to $90.95 a barrel. The Russia/Ukraine situation will almost wholly determine short-term price action and short of a massive Russian pullback, it was hard to see much downside in oil prices from here. A Russian invasion, on the other hand, opens a massive spike in prices that could possibly extend above $140 a barrel.
OPEC+ compliance remained above 100%, hinting that they were pumping as much as they can. Iran/US talks were going nowhere, and I see no news about a massive increase in US shale oil. Dip buying, even at these levels should remain the default trade for now.
Key levels for Brent crude at $90.00 and $96.00 a barrel, and for WTI, $88.00 and $96.00 a barrel. Hang on for the ride in between.
Gold sideways in Asia
Gold was the quiet achiever during my long absence, and its consistent rally despite typically adverse moves in the currency, stock, bond, and yes, crypto markets, was screaming that bull market nerves were becoming increasingly frazzled. Any escalation in Ukraine tensions will only fan gold’s bullish fires.
Looking at the charts, gold appeared to have traced out a long-term base at $1750.00 an ounce and a rally through $1920.00 signaled a further attempt on $2000.00 an ounce. Gold drifted slightly lower on the summit headlines today, easing 0.40% to $1890.00 an ounce. Near-term support was at $1880.00, with resistance at $1810.00 an ounce.
Gold’s haven status looked well and truly back right now, and only a full-scale pullback by Russia’s military from Ukraine’s borders would change gold’s bullish outlook.