A calm may have descended on markets, where we see volatility (vol) reads pulling back, but the set-ups are still there, and we see many interesting flows that offer trading opportunities.
In Europe, Christine Lagarde and six other European Central Bank (ECB) speakers hit us with their views on economics and policy ahead of next week’s key ECB meeting. On the data side, we get new manufacturing and services PMIs in Europe, as we do in the UK. European PMI’s may get increased focus, as the pace of contraction is expected to slow and could even expand. Essentially, the wind is currently to the back of EU assets and we’re seeing some solid outperformance, notably vs US equity markets.
One consideration has been the better feel of EU economics, largely driven by the warmer climate and sharp declines in EU Natural Gas prices. The data in Europe is consistently coming in hotter than forecast. Positive economic surprises are causing inflows into EU equity funds after a year of sizeable outflows.
We see bond yields in the EU are becoming sharply less negative than its US counterpart and EURUSD has taken note of the relative rise. EU equities have had a blistering start to 2023. This relative outperformance won’t last forever, of course, not when you’re seeing US tech catching a bid and the NASDAQ100 starting to crank up. Naturally, one questions how much foreign capital is buying EU assets on an FX-hedged basis. For now, EURUSD eyes a breakout of its recent range at 1.0875 and as long as price declines are supported into the 5-day Exponential Moving Average (EMA), which is trending higher, then EURUSD should be traded from the long side.
Would a pullback in risk assets, a decline in equity, rise in the VIX index and wider credit spreads, punish EURUSD longs? Perhaps. But while there is no doubt global financial conditions are becoming a tad too easy for central banks liking and could really impact their inflation fight, the easier trade if equity does roll over, is long EURAUD positions. As we’ve seen in the outrageous and explosive bull trends in crypto and global equity, Hang Seng50, CHINAH, ASX200 and Friday’s moves in NASDAQ100, that time is not now.
- Euro Zone CPI expected to continue dropping; economists warn about cutting too soon
- Technical Analysis: US Dollar central to broad market sentiment
- High interest rates pushing profitability of Eurozone banks to new highs
With China offline this week, expressions of China re-opening may take a breather. Those solely concentrating their efforts on FX and indices will be missing some incredible bullish flows in single stock/Exchange Traded Fund (ETF) plays. BHP Group [LON:BHP], Rio Tinto [LON:RIO], Northern Star Resources [ASX:NST], Worley [ASX:WOR] and Global X Lithium & Battery Tech ETF [NYSE:LIT] to name a few. Of course, leverage changes in these plays and we are subject to exchange hours (which means gapping risk), but the propensity to trend, makes these very compelling plays.
The market feels confident of the next moves from central banks
So, looking at the data for this week I’d argue there are fewer landmines to derail sentiment. US Q4 earnings do play a greater role, with IBM [NYSE:IBM], Microsoft [NASDAQ:MSFT], and Tesla [NASDAQ:TSLA] out and likely to get a solid run, but the data points are mostly tier 2 considerations.
For me, it’s about getting set for the following week when we get the Federal Reserve (FED), ECB, and Bank of England (BoE) all out with rate hikes and guidance. The market is confident in its call for a 25bp hike next week from the Fed, as they are with 50bp hikes from the ECB and BoE. With regards to Fed action, confidence in its potential policy actions is sky high after the Fed member Waller’s comments on Friday.
I’d even argue the market is buying risky assets because they feel the Fed are actually in control here and may not have to put the US economy in recession.
We’ll be updating views on the ECB and BoE meetings through the week but for now, we expect a 50bp hike from both. ECB member Knot has caused a small stir with calls (on Sunday) that he wants to see a 50bp hike in both Feb and March. It may sound shocking to some, but the rates market is already pricing this outcome, so it shouldn’t jolt the markets too intently. Watch out for EU CPI estimates next week (1 Feb) which could impact pricing.
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