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Saturday 20

October, 2018 3:28 PM



The Daily Fix - Inter-Market Analysis and Macro Insights

The Daily Fix - Inter-Market Analysis and Macro Insights

Its been a relatively quiet affair around the traps today...

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05.10.2018 03:53 PM

Its been a relatively quiet affair around the traps today and clearly, the Asian session has been one of reflection, with traders assessing and managing exposures ahead of tonight’s US nonfarm payrolls report.

If we focus on the options market, USDJPY overnight volatility sits at 5.88% which is far below the 12-month average and hardly screaming that traders see the US jobs report as a genuine volatility event. However, while no one buys volatility these days, it feels as though there is value there and while I have no exposures over this event, the risks, in my opinion, is for a weaker-than-forecast average hourly earnings (AHE) print, with consensus currently calling for 2.8%yoy (+0.3%mom).

We can debate the headline level of net job creation and applying at the usual leading indicators, such as the employment sub-component of the services ISM, or the ADP private payrolls report, we can argue we should see over 200,000 jobs created.  That said, in reality, we have no real insights here and holding positions over an event that can often exude vol and is a lottery, doesn't really help our edge. What is the bigger consideration is what will make the market move, and that is earnings and the underemployment (U6) rate.

As mentioned yesterday, it felt as though the market was going into the release with elevated expectations.  That said, some of the heat did come out of the market, with the US 10-year Treasury coming off session highs of 3.23%, and closing at 3.18%, while the likes of USDJPY fell from 114.55 to 113.63. As it stands, the 10-year Treasury sits at 3.19% in Asian trade, with USDJPY testing the figure, with the USD index unchanged on the day. This won’t surprise, as the playbook seems reasonably straightforward, where we should see at least a 0.5% gain in the USD index should AHE push into 3%yoy. While the 38.2% retracement of the 21 September to 3 October rally at 95.24, should come into play should the AHE come in below 2.6%. We can look at the trend higher in other wage data points, such as the Employee Cost Index (ECI) or Atlanta Fed wage tracker, and these suggest that we can afford some cushion to the USD. And, importantly, we need to also consider base effects, where we need to see at least a 0.49% mom print today (from earnings) to get anywhere close to 3% yoy earnings growth.

So, the playbook is set, so while it feels as though the market will give some leeway to a miss, which in effect could breathe some life back into EM and risk assets, with the Nasdaq 100 the vehicle of choice here. However, if wages do print 3% or above and that is where things get very spicy and it will be red rag to a bull, with interest rate hike expectations only going to increase, the US yield curve will steepen, emerging markets will take another bath and US tech will find sellers easy to come by.

Here, we should see the 30-year Treasury close the week above the 1999 downtrend at 3.41% (see Bloomberg chart below), having already broken out of strong resistance at 3.27%. 


And, it certainly shouldn’t surprise that yields are going up when we look at the technical factors behind the recent moves. So, while many have focused on strong US data and higher crude, we need to consider that the ECB recently cut its monthly asset purchase program to €15b p/m. While at the same time the Fed is allowing $50b p/m of assets held on its balance sheet to mature and again, its no coincidence that the level of treasuries (and other securities) held on its balance sheet has fallen below $4t for the first time since 2016.

(Treasuries and other securities held on the Fed's balance sheet)

(Source: Bloomberg)

S&P 500 futures have closed below the June uptrend at 2926, but just managed to close above 2907.5 - the 26 September low, and a level I have been focused on. Momentum studies are headed lower, but I feel we do need to see the bid come out of the market, and judging by yesterdays candle, buyers are still prevalent, and it is positive to see investor rotate out of tech and into financials than just holding disdain for equity.

Recall, many of the tech names have crazy forward price-to-earnings ratios, with participants investing in their very compelling cash flows. So, when if we use the 10-year Treasury as our risk-free rate by which to discount these future cash flows, back to the present. When bond yields move higher, these cash flows become less attractive, and valuation becomes a factor.

Another factor to watch in the session ahead is how USDCNH tracks, because talk on the floors today is that the Chinese authorities may allow the yuan to depreciate in line with future tariffs levels. A move through 7.00 in USDCNY is a game-changer in US-Sino relations, but it should also be the smoking gun to push AUDUSD through 70c. The world is short AUD and rightly so, but there are no worries at all today to hold this short AUD position into the US payrolls when most know that rallies are a gift at the moment and are to be sold. We can look at the options market and price up an AUDUSD ATM (daily) straddle and see this costing around 36-points. In effect, the market sees a move (in either direction from the spot) no greater than 36-points, so why sell spot when the market doesn’t see this report changing the game?

On the daily chart, we can also see confirmation that the 11 September low of $0.7085 is now resistance, with sellers happy to fade today's move into here – again, USDCNH leads. On the session, I would be a buyer into $0.7010, as this represents two standard deviations from the line of best fit (drawn from the January highs). Although, the upside seems limited and it feels as though even on this fill the subsequent upside is capped into $0.7040/50.

Published by Chris Weston, Head of Research, Pepperstone
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