There has been a notable improvement in market sentiment over the past week which has been driven by the improvement in the oil price, but how sustainable is it? However the oil price rally on the discussions over an OPEC and also Non-OPEC production freeze is still not set in stone. Additionally, there are still key safe haven plays which are holding on to the strong gains, something that leaves lingering doubts. However, for now this rally in risk is something that looks as though it is being backed. The big question is how long will the improvement last for? I believe it will last as long as the improvement in the oil price continues.
- Ever since there was a suggestion that key members of OPEC were willing to meet with Russia to discuss production limits the oil price has rallied. The rally has been choppy as newsflow has fluctuated around the story, with Iran not taking part pulling prices lower last week. However this is a story that continues to run and OPEC secretary general El-Badri continues to talk about the “feeling of the water” over a deal and that further actions beyond a production freeze could take place. This, along with the 5% decline in the Baker Hughes oil rig count in the States helped to fuel huge gains on oil yesterday. It is not a done deal though and the proof is in the pudding. Furthermore, US shale oil producers can easily ramp up production to make up for the shortfall. However perhaps the fact that Saudi Arabia is willing to act is enough. Saudi Arabia was widely considered a key player in allowing prices to fall as far as they have in an attempt to price out competitors from the market. Perhaps a corner has now been turned.
- There has also been improved sentiment on the dollar in recent days. This has been driven by the stronger than expected core CPI reading to 2.2%. This was interestingly back above the Fed’s 2% inflation target and whilst CPI is not the FOMC’s preferred inflation reading, it does suggest that inflation pressures are building. The core PCE now takes on added interest this Friday, with a current reading of around 1.4%. The inflation pick up has helped to drive sharp euro weakness yesterday and coupled with the deterioration in Eurozone PMI data the divergence of economic data has weighed on EUR/USD which is now below a key pivot (see below).
- The threat of Britain’s exit from the EU (referred to by the phase “Brexit”) has put huge downside pressure on sterling. Sterling had already been a significant underperformer in 2016 across the majors but the news that Boris Johnson, the popular UK politician would be joining the Vote Leave campaign has boosted the prospect of a Brexit. Citibank has increased the probability of a Brexit from between 20% to 30% to now 30% to 40%. This whole issue will hang over sterling like a cloud in the months leading up to the poll on 23rd June. The economic data will provide volatility but the downward pressure on $1.4000 looks set now. There are likely to be significant stop –loss around such a big figure level, so it would be a crucial break if it were to be seen.
- The correlations between the safe haven plays are now fracturing. Although the yen is continuing to perform well despite the dollar strength, the euro trading much weaker now, whilst gold is in a rather choppy consolidation. Furthermore, the pickup in core CPI for the US has also helped to drive US 2 year yields higher and whilst the 10 year Treasury yield is gradually following suit this would suggest that the market is moving back the other way on US rate hike expectations. It will be interesting to see how this moves now. Whilst the market is pricing out a March hike (only 8% according to CME FedWatch), December is increasingly becoming a possibility again (up at 44%).
- Equity markets are still closely correlated to the movement on the oil price though and this looks set to continue for a while. The day to day movements in appetite for risk still seem to be driven by oil and this suggests that equity markets remain beholden to the shifting outlook for the black stuff.
- The US will be the key component in economic data driven moves this week. The Consumer Confidence will be watched although it is only expected to dip slightly, however perhaps the Richmond Fed data will also be important after the US flash Manufacturing PMI disappointed yesterday. Although prelim GDP is expected to be shaved to +0.5%, the real interest will come from the Fed’s preferred inflation indicator, the core Personal Consumption Expenditure on Friday, with interest to see if the data picks up in the same way that core CPI did last week.
MARKETS
EUR/USD – The $1.1050/$1.1100 pivot now turns into a band of resistance
- Economic data divergence has not helped the bulls, with disappointing economic data from Germany France and the Eurozone as a whole in the flash PMIs coming after the continued contraction in the German ZEW. This will put further pressure on the ECB to push ahead with further monetary easing at the next meeting (2 year Shatz is pricing a possible 20 basis points deposit rate cut). Also the US core CPI increase has bolstered the US 2 year yield and supported the dollar
- The break back below $1.1050/$1.1100 means this now becomes resistance near term. Momentum is negative and rallies are bing sold into. The outlook suggests that there will now be a shift into a medium term range $1.0800/$1.1050.
- Watch for: US core PCE, developments over the OPEC oil production freeze
GBP/USD – The psychological level at $1.4000 is now crucial
- Threat of a Brexit has put pressure on sterling and this is likely to continue for the run up to the polling day on 23rd June. Coming as the dollar has begun to strengthen on the inflation data has not helped the outlook either. There will be some significant players sitting in around $1.4000 so this is likely to be a significant floor, however also raises the importance if this level were to be breached.
- An extremely negative technical outlook is in place now but also with further downside potential. Rallies will be seen as a chance to sell, with $1.4170/$1.4235 initially. Expect further pressure on $1.4080 and a breach of $1.4000 would open the 2009 lows $1.3500/$1.3650.
- Watch for: Brexit chat, US core PCE, developments over the OPEC oil production freeze
USD/JPY – Resistance at 113.50 now with pressure on 110.98
- The yen strength continues although there will surely be a time at which the BoJ is forced into further action. The dollar strength does not seem to be making much of an impact for now. The yen has again strengthened as risk appetite has again dipped today. The yen is a big outperformer still.
- Pressure on the 110.98 key low is mounting, with momentum indicators bearish the 23.6% Fib level now pivotal in a resistance. Rallies are being seen as a chance to sell.
- Watch for: US core PCE, developments over the OPEC oil production freeze
Gold – Support in at $1190 is key, with resistance around $1240
- The changing outlook for risk appetite is still impacting on the gold price as a choppy consolidation has formed. Appetite for safe haven buying has dried up slightly as the oil price has rallied but there is still a feeling that with gold holding up above support there is a concern in the market.
- A technical consolidation with a triangle has formed. The key levels to watch are the crucial October high at $1190 which is the key reaction low, whilst the $1240 resistance is also now important. The bullish argument is being questioned but there is also no real appetite to sell yet.
- Watch for: US core PCE, developments over the OPEC oil production freeze
Oil – Bearish arguments continue to be questioned
- Developments over any OPEC agreement will drive sentiment. Iran and Iraq making noises about their own production will also add to the volatility.
- Brent Crude has broken the key downtrend and now WTI has followed suit, meaning uncertainty over the medium to longer term trend. Key resistance on Brent Crude remains in at $36, with $34.80 on WTI.
- Watch for: Developments over the OPEC oil production freeze
Indices – Watch oil and this continues to drive sentiment on equities
- S&P 500 – The market recovery came within a whisker of the key February high at 1947 and a breach would complete a technical base pattern. Today’s likely consolidation still keeps the prospect of a reversal pattern on the table. The oil price seems to still be a driver of sentiment.
- DAX Xetra – The old 76.4% Fibonacci retracement at 9308 has turned from a basis of resistance to one of support as a recovery has set off. A move above 9600 would re-open the next key resistance at 9897. This is another market very much driven by market sentiment and that means oil.
- FTSE 100 – The FTSE 100 rally is breaking the 3 month downtrend as oil has broken its own downtrend. The move now neds to break through the 6115 key February lower high to suggest a sustainable turnaround in medium term outlook could be seen. Support at 5916 is now key near term.
WATCH OUT FOR THIS WEEK
Tuesday 23rd February
- US – S&P/Case-Shiller House Price Index
- US – Existing Home Sales
- US – Consumer Confidence
- US – Richmond Fed Manufacturing
Wednesday 24th February
- US – New Home Sales
- US – Crude Oil inventories
Thursday 25th February
- UK – GDP Q4 2015 (2nd reading)
- Eurozone – CPI (final)
- US – Durable Goods
- US – Weekly Jobless Claims
- Japan – CPI
Friday 26th February
- US – GDP Q4 2015 (Prelim reading)
- US – Personal Consumption Expenditure
- US – University of Michigan Consumer Sentiment (revised)
NEXT WEEK
Monday 29th Feb
- Eurozone – Flash CPI
- US – Chicago PMI
- US – Pending Home Sales
Tuesday 1st March
- China – Manufacturing PMI (Official and Caixin)
- Australia – RBA monetary policy
- Eurozone – Manufacturing PMI
- UK – Manufacturing PMI
- Canada – GDP (monthly)
- US – ISM Manufacturing PMI
Wednesday 2nd March
- Australia – GDP (Q4 2015)
- UK – Construction PMI
- US – ADP Employment Change
- US – Crude Oil inventories
Thursday 3rd March
- Australia – Trade Balance
- China – Caixin Services PMI
- UK – Services PMI
- US – Weekly Jobless Claims
- US – ISM Non-manufacturing PMI
- US – Factory Orders
Friday 4th March
- US – Non-farm Payrolls
- US – Unemployment and Average Hourly Earnings
- US – Trade Balance
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