Daily Fix: A big 24-hour risk for traders
I touched on Jerome Powell’s testimony to the House Services Panel (later at midnight AEST) in yesterday’s edition, and that continues to be the dominant event risk.
I’ll add that Powell speaks on behalf of the Federal Reserve and a collective view, rather than his personal thoughts. This is important, as there are eight voters who are yet to be convinced a cut is needed in the near term. One could argue that the recent ISM manufacturing and services, as well as payrolls are no smoking gun.
It’s probably why we continue to see selling in the August Fed funds futures contract (the red line), where traders use this tradable instrument to bet on the probability and extent of a July cut from the Fed. Go back to 24 June, and the yield here was 2.02%, which has given the Fed fund effective rate that sits at 2.38% (green line). It shows we were pricing in 36bp of cuts (if we look at the difference between the two variables). The yield on the August contract has since risen to 2.14%, and we see 24bp of cuts currently priced. So, I’d expect this to get some focus over the next 24 hours or so. Importantly we should see the USD, gold and equities keying off this instrument.
On a side note, we’re planning to roll out interest rates and bonds to clients in the next few months, so I’ll keep you appraised here. As even if you solely trade equities, FX or gold, they can be useful in understanding what’s priced in, and this can really help with our risk-to-reward assessment, especially when holding positions over events.
Fed member Harker offers his thoughts
Philadelphia Fed President Patrick Harker was interviewed by the Wall Street Journal, causing a bit of a stir, easing USDJPY above 108.80 — a level I mentioned yesterday. For those who like to trade inverse head and shoulders patterns, consider the technical target here. His view that “there’s no immediate need to move rates in either direction at this point… though slowing global growth and uncertainty over trade policy have created clear risks to that outlook” has genuinely resonated here.
It’s also been a key reasoning why AUDUSD has traded through the 20-day MA and looks heavy. A 4.1% decline in the July Westpac consumer confidence (out 10:30 AEST today) has hardly inspired AUD bulls, either. Fifty base points off the cash rate may have helped to stabilise sentiment towards the housing market, but consumers seemingly need a bit more encouragement. That said, the probability of a November cut has actually fallen a tad to 52%.
AUDCAD a key play
As I wrote in today's Chart of the Day, AUDCAD is interesting given the cross sits at the lowest levels since 2010. It’s one to watch ahead of tonight’s Bank of Canada meeting, which also comes out at 00:00 AEST later. Consider there are actually a few things going right for the Canadian economy, this could come across in a more balanced statement. With 11bp of cuts priced into Canadian swaps over the coming 12 months, we should consider if the statement goes any way to justifying this.
For me, diverging paths at a central-bank level are the perfect breeding ground for trend traders. It’s where we see a blowout in bond yield differentials, with FX coming along for the ride. That’s exactly what we see now, where we see the yield differential between Aussie two-year and Canadian two-year bond yields, as highlighted by the red line, getting ever wider. I’ve overlapped AUDCAD here to show the influence.
As the event risk rolls on, we also get the FOMC minutes for June at 04:00 AEST. It feels like the market is going to focus on the eight members who called for rates to be kept on hold in 2019. We also know that these members were open to a cut; they just wanted more information to compel them to call for a cut. The question is, then, what exact information would they like to see. Perhaps that comes tomorrow when we get the June CPI print.
Elsewhere in G10 FX, volumes in GBP have ramped up, notably in GBPUSD, which got a lot of attention on the break of 1.2506. Rallies remain an opportunity to sell, although I’ll say that traders are still very sanguine on Brexit despite all we hear in the Tory party leadership battle, as well as measures to make no-deal Brexit a higher hurdle. If I look at GBPUSD one-month implied volatility, there are just no concerns here at all that price is going to have a sizable move. To put into context, the market feels (with a confidence level of 68.2%) that GBPUSD will trade 120-pips either side of the current spot price (1.2452), putting a 240-pip range in play. Still incredibly hard to buy GBP on a timeframe over four hours.
DAX and FTSE at a make or break
Aside from the pre-positioning in FX I’ve mentioned above, we see a better feel to equities again through Asia. The DAX (GER30) and FTSE 100 (UK100) are two markets on my radar, as the price has come back to test their respective breakout points, and the buyers have supported. A rally tonight off this level is what technical traders would guide as support and could be a clear bullish signal.
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