Posted on: 04 Feb, 2019
The massive headline beat in last Friday’s US NFP led to solid flows into the USD as theUS fixed income enters a micro bear steepener phase -improved outlook -. One can notice the low rate of change in the average hourly earnings to 0.1% vs 0.3 exp MoM (bad). The unemployment and underemployment rate also rose as participation climbed.
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The Daily Edge is authored by Ivan Delgado, Head of Market Research at Global Prime. The purpose of this content is to provide an assessment of the market conditions. The report takes an in-depth look of market dynamics, factoring in fundamentals, technicals, inter-market, futures and options, in order to determine daily biases and assist one’s decisions on a regular basis. Feel free to follow Ivan on Twitter & Youtube.
Find today’s events below. As you can clearly observe, which is also supported by the implied vol studies today (more below), narrow ranges are expected.
US equities could not find sufficient demand imbalances through Friday to keep the bull party going, even if it represents no change in trend dynamics. The vigorous recovery in the US-30 year bond yield, jumping by over 5bp from 2.99% to now flirt with the 3.04% handle is a movement to pay attention to, as in the very short-term it communicates the outlook for the US Dollar may potentially improve, even if structurally there is more work to be done. Both the US30Y and the DXY trade on down-cycles and a negative 5-DMA slope, so it’s going to take further upward pressure to turn more constructive. The same can be said when analyzing the valuation of gold, which is yet to show any technical cracks. Overall, we remain in a structurally USD negative environment with rising equities underpinning risk.
Source: Global Prime
In the last 24h, the dynamics in the US yield curve have seen a sudden shift to a bear steepener as long-term 10y yields increase faster vs short-term yields, which at a micro level, communicates that the market has turned slightly more constructive on the economy and inflation, which theoretically translate in an environment constructive for a Central Bank raising rates. However, the dovish shadow the FOMC cast last week, from a macro standpoint, can’t be argued nor fought. That’s why such micro bear steepener outlook still has a gigantic steep hill to climb if it wants to challenge the newly established macro bull steepener phase the market is currently navigating, which is an environment where US growth and inflation expectations decelerate.
In Australia, ahead of the busy Central Bank week, the yield curve has been sending us a clear message ever since the Jan 24th. The sudden drop in the NAB business conditions appears to have been the inflection point that resulted in the current bull flattening phase, as the market factors in the contagion of falling Aus housing prices spreading into the broader Australian economy. As the curve stands, even if the Wall Street Journal (WSJ) reported hawkish comments by the Reserve Bank of Australia (RBA) board member Ian Harper, noting the next move in rates is more likely to be up — purely a semantics cheap trick — it’s bond traders you want to listen to.
Find an eagle eye view of the Australian economy as of late:
In New Zealand, the last 24h of price action in the bond market have led to a re-anchoring of the micro + macro trend, as the bull flattening dynamics well established for quite some time re-align. If anyone argues for a potential rate hike by the RBNZ this year or early 2020, well, the message in the yield curve is plain opposite, with the market discounting a further slowdown in both the economy and the outlook for inflation, as the sharp drop, especially in the short-dated bond yield suggests.
With regards to the UK and Canada, the two countries were able to find enough supply in its fixed-income market to make yields more attractive, especially on the long-end, resulting in bear steepeners. In the case of the UK, the mild recovery in the micro trend still defies the macro bull flattening dynamics as the Brexit situation remains unclear at this stage. Out of all the macro yield curves analyzed, I must say that the Canadian fixed income market is the one holding up relatively well, so one may think opportunities to exploit this divergence against the weaker yield curves.
Micro yield curve: It takes a look at the day-to-day rate of change in a country’s sovereign bond yield. This results in a short-term interpretation of the outlook of bond traders towards the Central Bank’s monetary policy bias going forward, based on the prospects of growth and inflation.
Macro yield curve: It takes a look at the 5-DMA slope and cycles in a country’s sovereign bond yield. This results in a mid-term interpretation about the outlook of bond traders towards the Central Bank’s monetary policy bias going forward, based on the prospects of growth and inflation.
*Bear Flattener: Short-term yields increase faster vs long-term yields (slower economic growth, relatively strong FX keeps CPI low, Central Bank in pause)
*Bear Steepener: Long-term yields increase faster vs short-term yields (economy in accelerating growth phase, Central Bank should raise rates)
*Bull Flattener: Long-term yields drop faster vs short-term yields(decelerating growth, low inflation, risk Central Bank lowers rates)
*Bull Steepener: Short-term yields drop faster vs long-term yields (decelerating economic growth, no inflation, Central Bank must cut rates)
* The 25-delta risk reversal is the result of calculating the vol of the 25 delta call and discount the vol of the 25 delta put. … A positive risk reversal (calls vol greater than puts) implies a ‘positively’ skewed distribution, in other words, an underperformance of longs via spot. The analysis of the 25-delta risk reversals, when combined with different time measures of implied volatility, allows us to factor in more clues about a potential direction. If the day to day pricing of calls — puts increases while there is an anticipation of greater vol, it tends to be a bullish signal to expect higher spot prices.
Source: http://cmegroup.quikstrike.net (The RR settles are ready ~1am UK).
The momentum in the pair has been clearly waning as the price action clearly reflects, with back-to-back long-topside tails. The US economy, unlike the EU, is not yet showing signs of major cracks in its economic momentum, even if the macro view of a decelerating US economy and contained inflation is a narrative gaining traction. The increase in Put premiums is a bad augur short-term, with options traders’ vol skewed now favoring a shift in what still can be argued to be a bullish momentum trade if one judges the 5-DMA slope. To further complicate the potential bias, the German vs US yield spread keeps diverging, which suggests capital flows in favor of the Euro. Overall, a pair exhibiting no clear clues to take either side from a daily perspective.
There is no doubt that the price action has transitioned into a phase of bullish momentum, but unless there is a major shocker, any retest of the 110.00 macro resistance should be met with grateful seller. Why am I saying this? Quite simply, because price action is currently front-running other correlated instruments such as the US 30-year bond yield and the DXY, both still exhibiting downward slopes that would suggest the current correction in price action should remain corrective and limited in nature. The strong close by NY, however, is still indicative that residual momentum-led demand could see us testing the 110.00, which means room for an additional 50p pop is definitely within reach.
If this was not the rich fundamental-driven week it’s going to be, I’d say the technical and intermarket studies keep screaming to buy the Aussie on dips. But such a strategy would find one relatively soon in a fairly dangerous position as the RBA monetary policy outcome represents an immediate downside risk for the Australian Dollar. By now, the Central Bank should have collected sufficient evidence to tone down the outlook for the economy, a view being expressed by the yield curve as shown above. Technically, the Aussie still finds itself in a newly established up-cycle, while the slope in the 5-DMA of the DXY, Yuan, equities and even the Aussie vs US yield spread all benefit the pair. The alignment of all these factors should guarantee solid flows during Monday ahead of the reset play.
Be on high alert if you are entering a short position on the Kiwi as correlations are far from suggesting that the bearish turnaround may find further legs down. As the chart above exhibits, the bullish momentum won’t just stop on its tracks amid concurrent upward slopes in the NZ vs US yield spread alongside the inverted DXY, indicative of a macro USD bearish environment. The rejection of a key resistance above 0.69 is definitely an area worth trying shorts, but the intermarket backdrop makes this trade still a fairly risky proposition until further evidence of technical cracks gathered.
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