S&P 500, USDCNH, FXI, Dollar, USDJPY and Fed Talking Points
- We are three weeks from the end of the year and the docket is overloaded with major event risk which will is likely to stand as the last serious threat of volatility and trend for the year
- Top scheduled event risk ahead is the FOMC rate decision on Wednesday which will prove an inevitable charge for the S&P 500 pushing record highs and the Dollar in a breakout situation
- In addition to the Fed update, there are a slew of rate decisions (ECB, BOE, BOJ, etc); December PMIs; the quadruple witching for derivatives expiration and more
Risk Trends at a Precarious Juncture for the Last Full Week of Trade for 2021
We closed out this past week with the exact speculative mix to put the markets on edge for the markets open Monday. While most of the risk-leaning benchmark assets that I track for a sense of sentiment across the financial system were trading well off their highs, the S&P 500 managed to close out this past Friday with a record. This was a peak in the most technical sense as the chart hardly looks like a break, but it nevertheless earned the headline. For those that consider the SPX the guiding light for the broader market, this was a signal of intent for follow through. Yet, for the vast majority of traders and investors that look to more or different assets for their guidance, we are still lacking direction and conviction. That is an important distinction as we are heading into the last fully-liquid and event-laden week of 2021. Considering the various themes influencing the markets and the technical skew in speculative assets, there may be capacity for further modest gains on a ‘Santa Rally’ through year end, but the real potential for market fallout rests with the an unexpected and severe risk aversion.
| Change in | Longs | Shorts | OI |
| Daily | 1% | -1% | 0% |
| Weekly | 15% | -13% | -1% |
Chart SPDR S&P 500 ETF with 100 and 200-Day SMAs with Volume (Daily)
Chart Created on Tradingview Platform
While market participants will rightfully track the high-profile event risk on tap this week along with the open-ended threats that are lurking just beyond the veil of stability, the true sculptor of activity over the week ahead and through the end of the year is liquidity. Historically, the S&P 500 posts a hearty gain through the month of December as volume and volatility tend to dissipate – there is cause and effect here. In the final two week so the year, a wind down is very likely; though I would not write off surprise volatility given the unresolved systemic threats possibly converging with the extreme liquidity conditions. On a more granular level, the 50th week of the year is historically the only week of December to register a loss (for the S&P 500). With a range of highly charged event risk and speculative benchmarks hovering at extremes, the chance of a reversal back into an establish range seems a ‘path of least resistance’.
S&P 500 Seasonal Weekly Performance
Chart Made by John Kicklighter with Data from Bloomberg
Top Unscheduled and Scheduled Risks Over the Coming Week
With the stakes set in technical terms, it is important to lay out the catalysts that hold the greatest potential to triggering serious market moves ahead. There will be serious competition for our attention moving forward, but among those matters that can’t be readily listed on the economic calendar, I believe there is a notable skew for downside risk. The possibilities for charging a deep well of speculative enthusiasm are all but baren and even the ‘relief rally’ list seems to have been tapped. The most recent rebound attached to respite regarding the omicron variant’s transmissibility drove the S&P 500 to the peak it reached at Friday’s close. From here, the risks of fallout are far more prominent. At the top of my list of concern remains China’s financial stability. This past week, the Fitch rating agency changed their destination for Chinese property developers Evergrande and Kaisa to ‘restricted default’. There remains dispute around what happens next and the government remains as opaque as ever, but the fallout for foreign investors could unfold quickly and with little warning.
Chart of USDCNH Overlaid with the iShares China Large Cap ETF with 50-Week Correlation (Weekly)
Chart Created on Tradingview Platform
In contrast to the open-ended threats that we need to remain vigilant on, the docket is pretty clear on its top listing. The FOMC rate decision is scheduled for Wednesday afternoon (Washington DC time), and the entire market is tuned in for the outcome. While this is not the most hawkish major central bank, it carries far more weight than its peers in terms of setting the tone for the global forecast. For the event itself, the possibility of a change in benchmark rate is very low – a hike or cut would be extremely surprising with serious market moving implications, and the Fed looks to avoid triggering volatility sometimes more than it tries to keep to its dual mandate. The real influence from the event is around the signaling of tempo for the taper and the timeline for interest rate hikes. Recently, Chairman Powell made clear that a faster taper program would be discussed at this meeting given the high level of inflation (CPI hit a nearly four decade high Friday) and markets have pushed speculation of rate hikes in 2022 above the two full hike threshold some weeks ago. If anything, expectations are perhaps more hawkish than the central bank can live up to.
Twitter Poll: What do You Think the FOMC’s Forecasts for 2022 Interest Rates Will Show
Poll from Twitter.com, @JohnKicklighter
Identifying the Trading Options
With the landscape for liquidity and volatility laid out ahead of us and a high-profile fundamental event on tap to trigger outsized market movement, it is important to ground the market winds into tangible scenarios. While I am monitoring risk assets closely given the ‘path of least resistance’ swing capacity for the likes of the S&P 500, my interests are more targeted on the US Dollar. When you look at a benchmark like the trade-weighted DXY Index, it is hard to miss the dramatic consolidation in price these past three to four weeks. The wedge is due to inevitability run out of room in the next 24-48 hours of active price action. The real question is whether the break will come with a definitive fundamental push or whether it will precede the spark. A break without a fundamental backing will likely peter out quickly as anticipation kicks back in.
Chart of DXY with 100-Day Moving and 5-Day to 20-Day ATR Ratio (Daily)
Chart Created on Tradingview Platform
Among the Dollar crosses, I see strong arguments to be made for many of the crosses. GBPUSD is a particularly interesting pair with this past Friday’s bullish break on a sharp descending wedge. This cross is technically loaded and has even more heavily distorted fundamental contrast with UK yields pricing a very different rate forecast than the Sterling is allowing for, but the mere listing of the Fed and BOE rate decisions make it particularly important. That said, my interests are still principally directed at USDJPY. This pair is both a carry currency pairing as well as a risk-sensitive measure – a anything but ‘severe’ risk aversion benefits the Yen. While I like the head-and-shoulders pattern with a shoulder of 114 and the neckline at 112.50/25, this is just as remarkable a signal as an option itself.
Chart USDJPY with 100 and 200-Day SMA (Daily)
Chart Created on Tradingview Platform
While the Fed rate decision holds a rarified position in the hierarchy of capable event risk through the coming week, it isn’t the only major event that can stir local markets – and potentially even the global financial system itself. Amid some of the atypical reports, we have an OPEC meeting and the G7 Finance Ministers discussing inflation pressures. Thematically, the Fed isn’t the only central bank deliberating policy ahead. Also on deck are the European Central Bank (ECB), Bank of England (BOE), Bank of Japan (BOJ), Swiss National Bank (SNB), Mexican Central Bank, Turkish Central Bank and Russian Central Bank. Some of are capable of generating serious exchange rate response, but full-scale risk influence is reserved for the few and the extreme. Another theme of note this week is the last minute growth update we will receive from the advanced December PMIs from the major economies. A good proxy for delayed GDP, many will be watching this for benchmarking expectations amid the covid fourth wave and inflation fears.
