Markets claw back gains, but remain vulnerable

The S&P 500 staged an impressive rally at the end of Wednesday’s session, reversing a near 2% decline that had occurred earlier in the day. Global growth fears and US/China trade tensions were abated somewhat by a massive repricing of the market’s expectations for Fed interest rate cuts in the coming months. There is now a 39.7% chance that US interest rates could fall to 1.25% by the end of the year, according to the CME Fedwatch tool, that is up from a mere 7% chance one week ago. This equates to three further 25 basis point cuts this year, or one cut at each of the remaining meetings for 2019. So, the Fed to the rescue of stock markets yet again. 

When the going gets tough …

Of course, this is mere speculation, the market is assuming that the Fed will shift to a more aggressive stance on rate cuts to counterbalance the economic collateral from the latest trade spat between President Trump and China. However, at its meeting last week the Fed did not suggest that further rate hikes are likely. Will Jerome Powell and co. at the Federal Reserve remain at the mercy of every twist and turn of this ongoing trade saga, or will they look at the bigger picture, and the hard data, before making any decisions? With decent job growth so far this year and no immediate danger to inflation, the economic data may not support rate cuts at the pace the market currently expects. Thus, for traders of US indices, the next big driver of stocks could be the Jackson Hole Economic Policy Symposium on 22-24thAugust. 

Watch Jackson Hole for signals from the Fed 

Jackson Hole has been the setting for some key statements from central bankers over the years, and this year it could be Jerome Powell’s turn to either vindicate the market or to suggest that market expectations for interest rates have gone too far. In the jittery markets that we now face, any sign that the Fed won’t cut rates at the pace currently expected could be met with risk off price action. While we wait for the Jackson Hole summit, we may see more subdued price action in global stocks and other risky assets, especially after the large spike in volatility earlier this week. 

Interestingly, US stocks underperformed their European counterparts this week, and European stocks were the first to stage a recovery on Wednesday. This tells us something interesting about the dynamics of this recent bout of market turmoil: US stocks are overdue a pullback, and European stocks look better value for money at current prices. Thus, traders may only buy US stocks once they have fallen by a certain amount, so a recovery may not be forthcoming.  

Technical Analysis 101, why it’s worth getting your Fib on 

When indices sell-off because they look overbought (and the economy looks a bit dodgy), it is worth applying some technical analysis to your trading. At Minerva Analysis we are fans of the Fibonacci Retracement tool. The sell-off in the S&P 500 so far this week is approx. 23.6% of the rally from January to the peak in late July. Since this is not a significant Fibonacci level, we may see the S&P 500 fall further back towards the extremely significant 38.2% level at 2,770, before we see any serious buyers come in. If the sell-off extends beyond this level, which we think would only happen if the Fed disappoints the market at Jackson Hole or if relations between the US and China deteriorate even further, then the 50% Fib level at 2,690 may then act as key support. 

When safe havens turn unsafe 

If we continue to see a sell-off in risky assets then we would be wary of official intervention in the two most popular safe haven currencies out there right now, the yen and the Swiss franc. Japan and Switzerland have form at sporadically intervening in the FX market when their currencies become too strong during periods of market turmoil. Due to the sensitivities between the US and China, especially around currency intervention, we do not think that the Japanese authorities will want to antagonise this situation, thus they are less likely than the Swiss to intervene at this moment. We believe that the Swiss authorities may hold off intervening for now, as EURCHF has picked up from its intraday low at 1.0895, the lowest level since June 2017, and is currently back above 1.0925, which may placate the Swiss authorities for now. However, if there is another sustained bout of selling for this pair then we would urge caution as when authorities intervene in their currencies it can trigger unexpected bouts of volatility. 

The pound: brief respite only 

The pound has not managed to capitalise on its brief recovery back above $1.22 vs. the USD earlier this week, however, it also missed out on all of Wednesday’s volatility, and traded in a tight range. GBP remains vulnerable to the recent rhetoric from both the UK government and the EU blaming each other for the impasse in negotiating the UK’s Brexit deal. Our base case is that unless Boris Johnson manages to pull a rabbit out of a hat and get the UK a deal to leave the EU, then the pound is likely to fall further. Although the technical signals continue to look oversold, Brexit remains kryptonite for the pound, and if the Brexit negotiations continue to deteriorate then we could see GBP/USD slide below the key $1.20 mark in the coming weeks. 

Oil takes the brunt of worldwide growth fears

All eyes will be on the oil price on Thursday to see if it can follow stocks and stage a recovery. It has been a victim of the escalation in the US/China trade spat and the panicked actions from global central banks on Wednesday. This helped to push Brent crude to its lowest level since early January, and it also broke below the key $60 per barrel mark. With plenty of fundamental risk to weigh further on the oil price, and with technical signals also suggesting that the path of least resistance is lower, this opens the way to a steeper decline back towards $55 in the short-term. However, if risky assets manage to stage a deeper recovery over the next couple of days, then we would expect oil to claw back some recent losses, although $60 per barrel is now a major level of resistance.