Dollar, S&P 500, USDJPY and Crude Oil Talking Points:
- Though the Fed rate decision put forward rate forecasts that see no hikes at least through the end of 2023, the US 10-year Treasury yield extended its climb above 1.7 percent
- A relief rally around the US central bank’s commitment lasted for mere hours as the S&P 500 lead US indices, fad assets and yield-sensitive risk assets lower
- Meanwhile, the DXY Dollar Index has posted a bounce before crashing technical support, but is the currency a carry candidate or haven in demand?
The Fed-Driven Relief Rally Didn’t Last Very Long
With correlations across various ‘risk’ assets fading and US indices coasting at or just off record highs, the market was looking for something tangible to reconstitute enthusiasm across the board. The Fed’s announcement Wednesday afternoon that it intended to hold its course of near-zero rates and expansive stimulus program wasn’t exactly surprising. However, against the backdrop of rising inflation expectations and existential recognition among market participants of their dependency on central bank policy, it offered a tangible sense of relief. Yet, as much as the growing irrational fears of an imminent withdrawal of pervasive safety net were quieted, this wasn’t the source of renewed enthusiasm that ardent bulls were hoping for. This past session, the S&P 500 took a -1.5 percent dive that pulled it below a trailing support around 3,925. More telling was the fact that the Nasdaq 100 (-3.1 percent), Russell 2000 (-2.9 percent) and Dow (-0.5 percent) all followed along with the move.
Chart of S&P 500 and 100-Day MA Overlaid with Fed Fund Implied Hikes Through 2022 (Daily)
Chart Created on Tradingview Platform
For a more comprehensive look at the omnipotent influence of risk trends, I like to track the performance of benchmarks that have a sentiment bent but would normally foster disparity to the likes of the S&P 500. Notably, global indices like the Australian ASX 200, Japanese Nikkei 225 and UK’s FTSE 100 all struggled in the sessions following the Fed’s commitment and before US indices committed to the full slump. On the frontier of risk appetite, recent ‘fad’ favorites like the BUZZ ETF which is an index of the most favorably referenced stocks, GameStop as the poster child of meme stocks and SPAC trackers (like SPCX) were all sliding. Perhaps more indicative of the fundamental issues underlying this waver in confidence was the hit taken by emerging markets (EEM ETF), high yield fixed income (HYG ETF) and carry trade (such as EURJPY). These are highly yield sensitive, and that is perhaps this market’s most unrelenting trend at the moment.
Chart EEM Emerging Market ETF with 100-SMA Overlaid with EURJPY and HYG (Daily)
Chart Created on Tradingview Platform
So Much for Capping the Market’s Fears About Inflation and Yields
The Fed is in a very difficult position. It would prefer to maintain its extreme financial support of the US economy and financial system as long as it takes to see conditions return to normal and its main targets once again achieved. Unfortunately, life rarely follows the plan. Already overextended on supporting growth and stabilizing the financial system, fear of withdrawal is amplified and the policy authority finds itself held hostage to a degree by markets that threaten panic if any pullback is registered. That makes Powell and Co. very cautious on their approach. Yet, it seems the practicalities are clear to the market despite promises. This past session, US yields continued to charge higher. The US 10-year Treasury note overtook 1.7 percent for the first time since January 2020. Furthermore, the expectations of monetary policy adjustment by the Fed via Fed Fund futures actually advanced to 16 basis points by the end of 2022, the most hawkish outlook since mid-April. Skepticism over the Fed’s expectations are not uncommon for market watchers that have been around the past decade, so this shouldn’t come as too much of a surprise – nor strike anyone as a nature convergence.
Chart of US 10-Year Treasury Yield Overlaid with Implied Fed Fun Futures Hikes to 2022 (Daily)
Chart Created on Tradingview Platform
With so a meaningful rally in interest rate and inflation expectations – particularly in the US – a bounce from the Dollar isn’t out of place. The DXY Dollar Index bounced from a heavy confluence of technical support around 91.35/25, though it is notably still traversing the past week’s tight range. This same technical picture can be found in EURUSD (1.1990 – 1.1880), GBPUSD (1.4000-1.3800) and USDJPY (109.25 – 108.65). The question now as to when a break is coming and what direction it will take seeks guidance from what the principal fundamental motivation is for the currency. Is it a carry trade candidate that benefits from the higher yield to be found in the US versus many of its top-liquidity peers? If so, we should continue to monitor yields and rate forecasts. Or, perhaps the Greenback is playing out its role as a safe haven. If that is the case, the S&P 500’s follow through may be the defining factor.
Chart of DXY Dollar Index and 100 DMA with Dow and 10-Day Correl (Daily)
Chart Created on Tradingview Platform
Big Moves and Big Potential to Watch for Friday
Among the biggest moves to be found in the more liquid parts of the pool was the steep drop from US crude oil. The broader energy group was generally under pressure this past session, but the WTI active contract took the brunt of the bearish sentiment with a -7 percent tumble Thursday. That is the worst single-day hit for the commodity since September 8th and was the fourth worst session performance since the brief fiasco when the market went negative back in April of last year. Like other indicative assets, this particular market is a reflection of growth, risk trends, its pricing instrument (dollar) and its own supply-demand complications. What would really push it to stand out however would be the intent of follow through. To clear the 50-day moving average would speak far more of a bearish course unfolding than just a one-day volatility.
Chart of US Crude Oil Futures with 50 and 200-Day Moving Averages and 1-Day ROC (Daily)
Chart Created on Tradingview Platform
From active now to expectations of action later is USDJPY. There are a host of Dollar-based majors that have recent congestion on the back of meaningful trends months in the making, but this particular pair just happens to straddle more fundamental catalysts to accidently trip. The comparison of the Fed and BOJ policy views is one perspective – though I would pay more attention to the market’s interpretation rather than their stated intent – but the relative growth, relative yields and even the influence of international speculative flows can play a larger role here. There is heavy resistance overhead, but the market can rouse motivation if it is looking for charge.
Chart of USDJPY with 20-Day Moving Average and COT Net Spec Futures (Daily)
Chart Created on Tradingview Platform
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