I hope you had a great weekend.
let’s check in with what’s been going on in the markets… and what’s in store for this week.
Markets react to Fed ‘guidance’ change
Following the slide in US equities on Friday, global markets were lower overnight…
The risk-off move was quite marked last week, although we have seen a noticeable rebound off the lows in the overnight futures markets.
But it’s clear that traders remain nervous.
Financial markets continue to reverberate to the news from the Federal Reserve’s policy meeting last week… and the prospect of rising interest rates down the line.
In case you weren’t aware…
The Fed communicates its intentions to the financial markets using terms referred to as guidance.
This states what the Fed’s thinking is on the path of interest rates and other more recent monetary tools such as quantitative easing (QE).
QE is the purchase of bonds – both sovereign (i.e. government) and corporate (bonds issued by companies to borrow money).
By buying these bonds, the Fed provides liquidity to the financial markets.
Up until last week the Fed made it very clear that rates would be kept at record lows for a long time – until at least 2024.
The markets got comfortable with this – which is why they have been rising relentlessly since March 2020.
Even as inflation spiked higher in recent data, the Fed allayed markets’ fear by restating their view that the spike in inflation was transitory.
So, what happened last week that changed all this?
Simply the FOMC (Federal Open Market Committee that sets interest rates), decided to change its guidance.
It said it now expected to raise rates twice in 2023, which effectively brings the first rate rise forward by one year.
No wonder the market reacted…
The reason for this change is that the Fed expects growth and inflation to be higher than previously forecast this year.
2023 is still a long way off, of course.
But what it tells you is that the Fed is having to change its guidance as the post pandemic economy heats up.
That means it could change again if this economic hot streak gets even hotter or persists longer than expected.
Of course, the other element is how transitory this inflation spike is?
Will it persist longer than August?
Time will tell.
Let’s review the markets and see just how the markets reacted to this shift in policy guidance from the Fed.
As you’ll see, the move last week affected all asset classes as this risk-off move took hold
Review of last week’s key action
FTSE -117 -1.63% DOW -1189 -3.45% NASDQ -39 -0.28% DAX -245 -1.56% NIKKEI unch
Clearly equities were knocked badly by the Fed’s change in guidance.
The falls were notable, not for the magnitude (because equities have had a lot worse times in the last 15 months, what with Covid panic and so on) but because this was the worst week in 4 months.
That probably says more about how resilient equities have been since then.
What is interesting is how unaffected the tech shares were.
Remember it was the reflation trade that has been driving markets higher in the past few months.
So, any unwinding of this approach would likely NOT hit the tech shares, as they had not benefitted from it in the first place.
UK shares were hit hard due to the resource sector coming under pressure.
Miners were particularly hard hit whilst oils escaped from the worst of it.
EURUSD -2.46 -2.03% GBPUSD -3.14 -2.22% USDJPY +0.55 +0.5%
Not surprisingly the USD got a very big lift from the Fed’s updated guidance.
Rising US interest rates will provide USD holders with a better return.
It’s only marginal but that’s the way the forex markets have been working where rates have been crushed to zero across the developed world.
The Dollar Index had its best week since April last year, as the EURO and GBP fell sharply.
Ironically, economists expect the MPC to raise rates by this time next year here in the UK, but that had little impact in this general USD rally.
Gold -114 -6% UK OIL +0.67 +0.9% US OIL +0.63 +0.9%
Bitcoin -1,980 -5.37%
Reports over the past 10 days said that gold would benefit from the increasing threat of inflation.
So, why did gold fall 6% last week? That’s its largest weekly fall since March last year.
Well, as I have said on many occasions the only factor that will cause gold to rally is a continued fall in the USD. Well, that had been happening, gradually.
But not anymore as we have just been discussing.
Clearly inflation is NOT currently the driver in Gold – it’s the US Dollar… and has been all year.
Remember, a strong US Dollar is not good for USD priced commodities, in general.
However, oil did not suffer from the strong USD as demand remains strong and growing in the post pandemic economic recovery.
Some analysts are forecasting a spike in prices to $100 per barrel. Time to sell, I hear you say!
Bitcoin struggles as China bears down on Bitcoin mining and bans use of crypto as a medium of exchange.
Data / events for the week ahead
A busy week with manufacturing and services data plus the MPC policy meeting
EU ECB’s Lagarde testify at a virtual hearing before the European Parliament Economic and Monetary Affairs Committee. EUR and EU equities sensitive.
US Chairman of Federal Reserve testifies on the Fed’s emergency lending programs and current policies before the House Select Subcommittee on the Coronavirus Crisis
EU, UK and US Flash readings on manufacturing and services sectors across most of the developed world. Still running hot? Markets will be keen to know.
US Oil inventories. Tight market still.
UK MPC – key meeting as inflation picks up and MPC ponders changing guidance, similar to US. Watch Sterling and UK equities.
US Final of three GDP readings. A hot Q1 followed up by an even hotter Q2 - probably??
US Revised UoM consumer sentiment. Still solid but a more concerted fall in equities could dent sentiment in the months to come.
OK, so let’s see how the week unfolds.
I’ll be back in touch with more news and views on trading the markets…