27-May-2020

1) Sharp Positive Reversal in US Dollar Appetite Hints At Mounting Stress
2) Fed’s Back Printing Money: Is It the Right Time for Gold?
3) EUR/USD: Once Again Fails Near Multi-Week Trading Range Hurdle, Ahead Of 1.10 Mark

 

 

1) Sharp Positive Reversal in US Dollar Appetite Hints At Mounting Stress

US equities followed up on Asian and European gains on Tuesday. Major US indices rallied to highest levels since March. The S&P500 (+1.23%) traded above the 3000 mark, but closed a touch below this level. Likewise, the Dow extended gains past 25’170, yet ended the session slightly below the 25K mark on the back of some profit taking into the end of the trading session. Nasdaq tested 9500.

Hope for a vaccine against coronavirus was a major catalyzer for the recent rally across world equities. The end of confinement measures has also contributed to the positive momentum, although the risk of seeing another vaccine fail and a potential second wave of contagion don’t appear to be priced in at their fair value. Hence, we see a mounting risk for a downside correction in the coming days.

Asian equities were mixed on Wednesday. The Nikkei (+0.89%) and the ASX (+0.65%) edged higher, but on a softer positive momentum compared to the beginning of the week, while stocks in China (-0.29%) and Hong Kong (-0.39%) pointed lower as investors’ focus turned to US-China tensions after the White House warned that the new national security law in Hong Kong could compromise the city’s special status as a global financial hub.

Good news came from mainland China however, where industrial profits jumped 33.7% on monthly basis in April, as downstream industries outperformed giving hope that the healing process is now effective from the bottom-up.

Demand in safe haven assets remained limited; the US dollar weakened across the board, the US 10-year yield advanced to 0.70% and gold retreated to $1705 per oz, giving traders a window of dip-buying opportunity to hedge against a rising anxiety across risk assets. The higher volume of dollar purchases in Asia hints that the wind could change direction starting from today.

Activity in FTSE (+0.52%) and DAX (+0.55%) futures hint at a positive start on Wednesday, but gains are fragile as investors have an increased intent to realize profits and turn flat at these levels.

The European Central Bank (ECB) President Christine Lagarde’s speech about the bank’s response to the Covid-19 crisis will be closely monitored by euro traders. But the latest German court investigation on the proportionality of the ECB’s massive bond purchases should dent the bank’s influence on markets, with the looming risk that the ECB could unwillingly scale down its rescue operations to support the Eurozone economy. And this is negative for the euro’s upside potential.

The EURUSD tested, but again failed to combat the solid 1.10 offers as the US dollar firmed on fading global risk appetite. The sharp reversal in daily direction could encourage a slide toward the 1.09/1.0880 area. The single currency is expected find some minor support near the 50-day moving average (1.0880), however. Also, we do not rule out the possibility of a renewed eurp rebound toward the 1.10 mark if Lagarde convinces investors that the ECB has got the right arguments to continue its monetary policy without interruption.

In the US, the Richmond manufacturing index is expected to confirm another cataclysmic month. Yet if the data is better than the consensus of -40 (versus -53 printed a month earlier), the marginal impact on the market mood should remain limited.

Gains in Cable were capped by the 50-day moving average (1.2350) as expected. A swift move toward the USD safety will certainly pull the pound below the 1.23 mark. The first natural target for pound-bears is the 1.2160-support, if broken should pave the way toward 1.2080, the May dip.

WTI crude consolidated a touch below the $35 per barrel, yet fresh long positions lose pace with the rising US-China tensions, hinting that a downside correction could be around the corner. As we mentioned in our earlier reports, the improvement in core energy demand is key for a sustainable recovery in oil prices, and that is happening with economies getting back to work across the globe. Hence, a potential pullback in oil prices triggered by mounting US-China tensions should find support near the $32/30 area.

 

2) Fed’s Back Printing Money: Is It the Right Time for Gold?

Let’s start with one of the main reason’s gold has rallied in 2020, and whether that makes it a viable investment going forward.

During March 2020, the Federal Reserve (Fed) announced it would be providing the bazooka of stimulus measures to prevent the economy from collapse, caused by the Coronavirus pandemic. This stimulus was a testament to the severity of the economic fallout at the time, the one we are now experiencing today.

Unemployment claims surged in the last two months, hitting back-to-back records, and essentially breaking the chart. Unemployment claims on March 26, 2020, came in at a whopping 3.283 million versus 100,000 expected (not a typo), while the total number of jobless claims in the US since mid-March is 33.3 million- or about 20% of the US – and this is not the end, according to the treasury secretary Mnuchin.

For an economy that is dependent on the consumer, having millions unemployed is undoubtedly to have an outsized effect. We received the first Coronavirus-affected nonfarm jobs report on April 3, 2020, and it essentially confirmed the sharp pullback with 701,000 net jobs lost and an unemployment rate that rose to 4.4% in March. The trend continued in April as we can see in the previous Friday’s report – unemployment rate soars to 14.7%.

That is just shy of the May 2009 financial crisis peak of 800,000 jobs lost, for reference.

Federal Reserve Chairman Jerome Powell made a historic commitment to unlimited quantitative easing, formerly known as QE-infinity, only a week after unveiling a $700 billion QE program and cutting interest rates to near-zero. In the face of uncertainty like we have never seen before, this was welcome. Mr. Powell didn’t have the exact numbers then, but we have had some updates on how the Coronavirus is affecting the economy.

All this economic uncertainty is bullish for gold prices, as it is seen as an economic fallout hedge. Also, the sheer amount of money printing globally is going to push investors into the precious metal, as you can’t ‘print’ more gold. It may end up being the currency of choice, and you saw that in the rally this week through recent highs.

So, with those announcements in March, and the economic fallout just beginning, how big could the Fed’s balance sheet get? And will that provide more upside in the precious metal, or has the run reached a peak?

Over the last two weeks of March, the Fed has bought more than $1 million in assets per second. The Fed’s balance sheet currently sits just over $6 trillion, and it’s projected to expand extensively in the coming year.

As the Coronavirus brought the global economy to a stall and sent stocks into bear markets, the Fed jumped into action, buying up assets. Also, they set up swap facilities around the world to shore up global supply. Analysts at Bank of America say that these two actions could bulk up the balance sheet to $9 trillion by the end of 2020. For those counting, that is approximately 40% of U.S. GDP. And that is if things get better and the stimulus is working as planned, it could get much more substantial if there are further issues in the economy.

That is eye-opening in comparison to the balance sheet expansion used in the Financial Crisis back in 2008-2009 when the Fed had approximately $2 trillion in purchases on their balance sheet. These are unprecedented times, and with an expansion like that, you must consider whether it is time for a non-fiat currency like gold to shine.

One more thing to touch on is how far interest rates have dropped, how long they will stay there, and what that means for the U.S. dollar (USD).

Another reason you must look to fiat currency alternatives like gold is the interest rates at central banks around the world, but especially at the Fed. After the Fed cut the target rate to 0-0.25%, there isn’t much lower to go, unless they go negative (something unfathomable a few months ago).

Unfortunately, normalizing interest rates is not something that is going to happen anytime soon. Lower interest rates means that gold has a stronger appeal as an asset. When the Fed tried to do this by hiking rates in 2018, it ended in disaster with a stock market crash happening in December.

This was after they increased rates for the fourth time in 2018 – but only to 2.25-2.5%. The days of 6% overnight rates are gone, at least for the foreseeable future. That complicates things, as it means the printing press is going to be on the gas pedal for decades potentially.

After three cuts in 2019 and a drop to zero this year, we have possibly seen a permanent shift in Fed Policy. If the economy normalizes and starts to strengthen, do you see them aggressively hiking rates and cutting asset purchases?

You would need to see some real inflation first, and with oil collapsing in the wake of this crisis, getting prices to rise to or above the Fed’s 2% target will be very difficult for years to come. As an added benefit for the strong bull case to gold, if inflation does come back, gold is seen as an inflation hedge.

With all this money printing and interest rates stuck at or near the lower end, one thing we might see in the future is a depreciation of the USD especially if the economic recovery takes longer than expected. A depreciating USD could be an additional benefit to gold, which is commonly priced in USD.

Given all the data we have just been laying out, it should not be surprising that we saw gold break out this week.

According to Jesse Felder, a former Bear Stearns analyst, and publisher of the Felder Report, now is the time to get long-term bullish on gold. Volatile and disappointing returns in the stock markets and the massive amount of global spending to combat the Coronavirus effect are his two main theories on holding a significant amount in gold.

That is because “gold prices tend to rise when the fiscal deficit as a percentage of GDP is rising,” which is precisely the situation we find ourselves in. Momentum can certainly carry gold prices fast, as we saw in 2011 when gold prices went parabolic.

That could certainly happen again, and we might see new highs in the precious metal in 2020 or 2021. There are, however, a few words of caution when investing in the precious metal, which are below.

The age-old question. There are undoubtedly several pros to investing in gold, and the fact that the Fed is going full print mode will help its case. Of the reasons you might be bullish on the precious metal, three main ones come to mind.

The first is that gold tends to be a quality hedge in a down market, much like the one we find ourselves experiencing in 2020. Of course, this is the first bear market since the financial crisis, so having that combined with a recession is pushing people back to gold.

The second is that gold will still have value if fiat currency gets inflated by the presses, something that is going to happen over the next year.

And the final upside is that at some point, gold may get back to its historical high of $1,896.50 back in 2011. Of course, there are a few negatives you must watch out for as well.

First, it is good to remember that gold has a terrible historical rate of return in comparison to stocks and bonds overall, especially if you started investing in the precious metal in 2011. Even with the surge in gold prices this week and the recent bear market, the 10-year return of the SPDR Gold Shares (GLD) versus the S&P 500 is abysmal.

Second, if you are investing in gold to avoid an apocalyptic scenario, it would be wise to remember that gold is virtually worthless if things get terrible. And finally, gold is not a company, or a business, that pays you. Warren Buffett is famous for not owning gold for this reason, as it produces nothing when you own.

Gold can only provide you income when you sell it, and to sell it at a higher price involves someone else wanting to own it, to sell it later. That wouldn’t be much of an investment case if you were studying it in a vacuum.

However, with money printing at an incredible pace and interest rates around the world stuck in low for the foreseeable future, it is worth considering for your investment portfolio – or to be buried in your back yard for safekeeping.

 

3) EUR/USD: Once Again Fails Near Multi-Week Trading Range Hurdle, Ahead Of 1.10 Mark

The positive news of a potential COVID-19 vaccine added to the recent optimism over the re-opening of economies across the world and raised hopes for a sharp V-shaped recovery for the global economy. The latest development temporarily overshadowed concerns about worsening US-China relations and provided a strong boost to the global risk sentiment. This, in turn, prompted some aggressive US dollar selling and assisted the EUR/USD pair to gain some strong positive traction on Tuesday.

The shared currency was further supported by the forward-looking Gfk German Consumer Confidence Index, which rebounded to -18.9 for June from the previous month’s upwardly revised reading of -23.1. From the US, the Conference Board’s Consumer Confidence Index edged higher to 86.6 in May as against 85.7 previous, albeit missed consensus estimates and did little to provide any respite to the USD bulls. A broad-based USD selloff lifted the pair closer to the key 1.1000 psychological mark.

However, a further escalation in diplomatic tensions between the world’s two largest economies kept a lid on any additional gains. The pair stalled its strong intraday momentum near the top end of a multi-month-old trading range after the US President Donald Trump threatened a strong reaction to China’s planned national security law for Hong Kong and added that it would be announced by the end of the week. The greenback was back in demand during the Asian session on Wednesday and exerted some fresh downward pressure on the major, dragging it back to mid-1.0900s.

Moving ahead, market participants now look forward to a scheduled speech by the European Central Bank (ECB) President Christine Lagarde at 07:30 GMT. Lagarde’s comments will be closely scrutinized to see if the ECB stands ready to introduce additional stimulus measures, which might influence the shared currency and provide some impetus. Apart from this, investors will also keep a close eye on developments surrounding the US-China dispute, which should play a key role in driving the broader market risk sentiment and further contribute to produce some meaningful trading opportunities.

From a technical perspective, the pair’s repeated failures near an important resistance point to persistent selling bias at higher levels. Hence, it will be prudent to wait for some follow-through buying above the 1.1000 mark, leading to a subsequent strength beyond the very important 200-day SMA, around the 1.1015-20 region, before positioning for any further near-term appreciating move. A convincing break will be seen as a fresh trigger for bullish traders and set the stage for a move towards reclaiming the 1.1100 round-figure mark with some intermediate resistance near the 1.1040-50 region.

On the flip side, any subsequent slide might continue to find some support near the 1.0900 mark, below which the pair is likely to fall further to the 1.0845 horizontal support. Failure to defend the mentioned support level now seems to pave the way for a further weakness back towards the 1.0800 mark. This is closely followed by the trading range support, around the 1.0775 region, which if broken decisively, would turn the pair vulnerable. The pair might then break below the 1.0700 mark and aim to retest YTD lows, around the 1.0635 region.