When The Going Gets Tough, The Tough Get Going

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by: Dean Popplewell

By Stephen Innes

US Poised to Publish $200 Billion Tariff List (Bloomberg)

Investor confidence was rocked after the latest US administrations trade salvo which reminded us that not all is quiet on the western trade war front after the Trump administration released a list of 10 per cent tariffs on $200 billion in Chinese goods. Of course, nothing is written in stone, and the tariffs are not set to take effect until September. Is Trump playing his strong hand, or is he making good on his ultimatum to escalate trade war with Beijing - that is yet to be determined. But nonetheless, this is a very sobering reality check as to just how fragile sentiment around trade war rhetoric is, and should keep markets trading defensively during Asia.

The markets have not yet turned onto full risk-off mode; US equity futures are indeed reducing earnings-inspired froth, and the S&P is tentatively finding support around the 2770 level, but that would seem a challenge to hold. USDJPY is holding above the key 110.75 levels, but this is in serious threat of giving way as the Nikkei buckles.

Commodity prices have come under pressure led by oil markets, which are tapering some overbought positions knowing well that an all-out trade war will raise global growth concerns, which could reduce oil demand - especially China, which could be the ultimate loser in this contentious game of trade war chicken.

The real action on currency markets remains centred on the RMB complex, which has cratered on tariff headlines as markets revisit both China economic downside risks and if mainland administrators will manipulate the yuan weaker as a tool in trade war escalation. I expect the USDCNH trade 6.80-85 over time as China risk continues to wobble.

With the RMB under pressure, we expect regional currencies to follow in tandem while local bourses continue to derisk for fear of trade war escalation. I remain on China watch for retaliation, but long USDCNH could be a go-to trade over time.

Gold will trade lower as investors seek shelter in US bonds and strengthening the USD on inbound flows.

When the going gets tough, the tough get going

U.S. stocks are trading off their intraday highs late in the NY session, weighed down by financials profit-taking ahead of the deluge of bank earnings reports on Friday. Robust US economic data had temporarily overshadowed fears over global trade disputes. That was until a late NY session headline suggesting the US is reportedly preparing the release of a new $200 billion China tariff list, according to two people familiar with the matter. But a list is a list and not an actual tariff, so lots to be ironed on this one. But regardless, it will put the markets back on the defensive for the time being

Until that point, the market was indeed embracing the raft of outstanding US economic data, and despite the apparent downside risks from an escalating trade war, the fact that investors continued to plough cash into equities was a central dictating market theme. And given the likelihood of a strong earnings season, at one point investors were heard yelling down Wall Street, "What trade war??" Indeed, when the going gets tough, the tough get going. That was until the latest headline, when much of the tough slogging was quickly unwound in minutes as the SPX shed 100 points in the flash of an eye, reminding investors that we are in tricky markets and nothing can be taken for granted.

The currency markets, however, are a different kettle of fish, where the market risk is relatively light with forex traders doing little more than rotating to what currency pair is hot from what is not. In other words, chasing the fear of missing out seems to be a common theme among G-10 trades after a considerable volume of USD long positions have been culled over the past few weeks, especially against the EUR and AUD. There is a reason why risk is so low in currency land; it's the real fear of getting sideswiped by trade war headline risk.

Oil Markets

Oil prices continue to gain on yet more production outages, with Brent briefly breaching the $80 per barrel high water mark as strikes by workers in Norway and Gabon added to global production outages.

Without question, supply risk continues to dominate trader psyche, and after the API reported another massive draw, traders are now positioning for another sizeable drop in today's EIA weekly report.

On to the bigger picture, the markets continue to access the intermediate-term supply impact as the November 4 US-imposed deadline for allies to halt Iranian imports moves nearer. All the while, the Libyan disruptions continue to run on.

At the end of the day, supply concerns and more disruptions continue to skew bullish for oil prices.

Gold Markets

After a brief peak above 1265, gold prices resumed their downward path as global stock markets trade well. However, gold prices came off session lows on NATO concerns, as the EU countries are worried about possible side agreement between Putin and Trump which could profoundly weaken the alliance. Also, the latest tariff headlines suggesting the US is reportedly preparing the release of a new $200 billion China tariff list, according to two people familiar with the matter, should keep a bid under the market. Gold dips remain attractive, particularly for investors knowing that gold should be an essential part of any diversified portfolio, especially in these highly charged political times.

Currency Markets

With this morning's tariff headline risk, I need to remind myself that the trade war is good for the dollar, as the US has the upper hand in negotiations, and whichever way this issue gets resolved, it's likely to be positive for the US current account.

GBP: Cable remains the land of the brave, requiring a sharp eye and quick trigger given the plethora of Brexit headline risk. But indeed, in this muddied UK political landscape, it does suggest the endgame will be the UK never leaves the EU, and in this scenario, the pound is "cheap as chips." When the UK political malaise subsides, sterling will be the shining star of the market.

JPY: The USD did look poised to break out topside given the fading of trade rhetoric and a real risk-on environment developing. US equities have held up remarkably well, as the bull market keeps marching here despite the reams of negative news thrown at the benchmarks. Long USDJPY is entirely under-owned, as risk-off trades are still prevalent versus the JPY, and on a break of 111.50-75 levels, dealers will be forced into a risk-on trade. But as usual, nothing ever works out as planned, so we may have to re-explore this scenario later once we iron out fact from fiction over the latest US trade escalation headline.

MYR: It was an up and down day for the ringgit, which was in high demand, and dare I say outperformed early on bond-related inflows as investors position for dovish pause for the BNM. The MGS curve was in firm demand, particularly the attractive long-end yields which are usually the domain for real money investors and pension funds. Indeed, last week's bond market awakening was the real deal!!

As for the BNM policy decision, we anticipate no actual shift in rates. Nor Shamsiah is a BNM veteran, and it would suggest policy continuity, but the markets will be more focused on forwarding guidance. Given the political and fiscal struggles ahead, I think it's easy to assume this will not be a hawkish pause.

Oil prices continue to flourish and should push higher given the bullish supply skews, which should go a long way in supporting the government coffers.