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Naufal Sanaullah

naufalsanaullah@gmail.comwww.shadowcapitalism.com

EarningsbeatspairwithstrongEurozonePMI&CanadianCPIdatatoliftriskbackhigher

YesterdayInotedthatgiventheS&Pannouncementandlackofupsidemomentumtheentiremonth,thedojibartoclosethedayinequitywasveryconstructive,especiallyconsideringwereversedrightoffofthe100dintheS&P.Today,riskmarchedhigher,extendingyesterday’sintradayreversaloffofthelowsandclosingtodayatthehighs.StrongEurozonePMIs(compositeandmanufacturingbeat,whileserviceswasin-line)helpedtogetsomeriskappetitegoingovernight,whilesolidUShousingstartsdataforMarch(549kvs520kexpectedvsanupwardly-revised512kprior)andastrongbeatinMarchbuildingpermits(11.2%MoMvs1.1%expectedvs-5.2%prior)addedfueltotherally.Othermacrodatawasalsosupportive,includingabigbeatinMarchCanadianCPI(1.1%MoMvs0.6%expectedvs0.3%prior),whichhelpedtosparkarallyinCADandcommodities.TheS&Prallied0.57%ontheday,closingatitsHODandlookingveryconstructive.AsImentioned,thebounceoffofthe100dlooksquitebullishandtoday’sfollow-throughfromyesterday’sintradayreversalisagoodsignforrisk.The1295-1300levelthatmarkedyesterday’slowlookslikeitcouldberepresentingtheshoulderlineforaninversehead&shouldersdevelopment,astheFebruarylowwaslessthanapointawayfromyesterday’spivot.Abreakthroughresistanceat1340wouldconfirmthepattern,whichtargetsS&P1430,almost9%higherfromtoday’sclose.Withearningsseasonstarting,thereareplentyofcatalystsforthispatterntoplayoutandIthinkwecouldseeabreakoutintonewhighsbymidnextmonth.

Shadow Capitalism

Market Commentary by Naufal Sanaullah

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ManufacturingdataoutoftheEurozonetodayshowedcontinuedimprovementthismonth,withthesub-indexupto57.5vs57.0expectedandthecompositeindexat57.8vs57.0expected.ThedatareleaseearlythismorningsentEURUSDrallyingoffthelowsandthecrossdidn’tlookbackallday,upabout130pipssincePMIscameout.Germandatawasespeciallystrong,withAprilmanufacturingPMIcominginat61.7vs60.0expected,up0.8fromlastmonth.Despiteweaknessintheservicesdata,thestrengthofthemanufacturingfiguresrelievedconcernsofanimminentslowdownastheboosttoexportsfromcrisis-levelEURUSDstartstogivewayformorenormalizedexchangerate-basedconditions.IcontinuetobebearishontheEurozoneonalongertermhorizon,butgiventhetailwindstoriskandinflationpressurespoppingupincommodities,IthinkUSDwillcontinuebeingsoldforthetimebeingandEURhasalottobenefitfromthat.TheFedisnotgoingtobehikinganytimesoon(athirdofinvestorsandeconomistsrecentlypolledbyBloombergthinkQE3ishappening,infact—thoughIdisagree),whiletheECBisoneofthemorevocallyhawkishCBsrightnow,anditseffectonratedifferentialsisverysupportivefortheeuro.Comingoutofacrisis,“policyarbitrage”isagreatstrategytoemployinmacro,asthecrisissetsanewbaselineinterestrateregimeallovertheworld,butthedifferenttimesittakesfordifferentcentralbankstobeginhikingagainsetsupbigopportunitiesincarrytradingduetowideningratespreadsbetweenoppositepolicyCBs.IthinkratesshouldcontinuetodriveEURUSDhigherforthenearfuture,andtherecentbreakoutthrough(andyesterday’ssuccessfulretestof)the1.42-1.43levelisbullishfromatechnicalstandpoint.IremainlongEURvsUSD&JPYandholding.Meanwhile,USDJPYhasretracedalmostfourbigfigsthismonthafteranalmost1000piprallysparkedbytheBankofJapan’snewliquidityinjections.Inotedyesterdaythatthe155dcouldprovideazoneforUSDJPYtobounceoffof,afterbeingtheS/RlevelthattheFebruary&Marchhighssoldofffrom.Itiscurrentlybouncingoffofthe38.2%Fiboretracementfromrecentcyclehighs,andwithriskassetslookingbullish,JPYcouldseealotmoresellingpressure.NottomentiontheBankofJapanhasgiventheall-clearforinjectingasmuchasliquidityasisneededtopreventtheyenfromsurging,especiallyasMarchexportssawa2.2%decline,whichwasdoublethecontractiontheconsensusexpected.USDJPY78-80isdefinitelythelineinthesand,asitmarkedasignificantlowbackin1995,andaverysimilarsharphammeroffofthatlevelmarksthelowUSDJPYhasralliedfromsincelastmonth.Ifhistoryrepeatsitself,USDJPYwillbebreakingbackoutofitsconsolidationbynextmonth.

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SinceS&PcuttheUS’sAAAratingoutlooktonegativewatchyesterday,theUSTmarkethasactuallyrallied,butthismaynotbeascounterintuitiveasitseems.Afterall,S&PdidthesamethingduringClinton’sadministrationduringabudgetimpasse,andalthoughnowadaysstructuralconcernsweighonUScreditworthinessjustasmuchasmoreacutepoliticalfactors,Ithinkthereactiontothenewsmayhavebeenabitoverblown.Afterall,ratingsagenciestendtobelaggingindicatorsmorethananythingelse.TheS&Pnewsaddslittlenewtodigestandthelong-termunsustainabilityofthecurrentUSdebttrajectoryisnotonlywidelyacknowledged,butisnowbecomingacentralpoliticalissuethatwilllikelybeabigfactorin2012elections.Curvesteepenershaveoutperformedsincetheheadlinehitthewires,likelyduetothespikedpoliticalenvironment,whichcouldleadtofurthernear-termfiscalconsolidationanddamperstogrowth.However,IthinkthebiggestdrivingforcebehindUSratesistheFed.AndwiththeFedhavingyettosuggestanycontinuationofQEpastthisiteration’scompletioninJune,IdoubtwewillseeQE3,atleastanytimesoon.Idothinkratesstaylowthroughthisyearandmost(ifnotall)ofnext,butifweseeanymoreall-outquantitativeeasing,Idon’tthinkitwillbeunlessweseedramaticriskstogrowthandnotuntilmid-tolate2012.Since2008,theFedhastelegrapheditspolicyactionsveryblatantlyandhasallowedtheentireinvestmentcommunitytoloadtheboatwithUSTsaheadoftheimplicitat-any-priceQEbid,aswellasoffloadthesamegovysbacktotheFedduringtheactualeasing.Thistimearound,assumingnosurpriseQE3thisyear,thereisnobidtofront-runandIthinkUSyieldscouldheadmuchhigher,especiallyinthebackendofthecurve.Thiscouldbesupportiveofrisk,especiallybecauseoneofthefewUSDcrossesthatwouldrallyonhigherUSrateswouldbeUSDJPY(duetoBoJbeingtheonlycompetitiontotheFedonlowrates)andadecliningyenalwayshelpstosupportriskwithsomecarryfunding.Expectmoresteepeningunlessanduntilweseesomeriskaversion.