Tickmill UK Daily Market Notes


Tickmill Representative
Fed’s hawkish policy keeps the Dollar fit

Fed’s eight rate hike had probably been anticipated since the start of policy tightening in 2015 and Powell did not disappoint investors this time. However, the Fed’s statement and Powell’s remarks were in contradiction with each other, which led to a racy price action of the FX market and bonds.

Since the market was sufficiently prepared for the rate hike, the focus was on dot plot and wordings in the statement. Accordingly, the market prepared two questions for the Fed before the meeting:

– “Is it possible to discuss the December decision now or is it better to wait until we are closer to it?” (actually the question of the policy of accommodation)

– “What is the optimal rate trajectory with the approach of the neutral level?”

The Fed responded as follows:

– The sentence mentioning the accommodation policy was removed from the statement.

– The review of economic conditions basically did not change compared to the August statement. The labor market “continued to strengthen,” economic activity remains “strong”, etc.

Of course, the decision to end the usage of the phrase “accommodative policy” means a shift in the approach to decision-making, although Powell at the meeting tried to reassure markets that this will not affect the Fed’s decision. I got the impression that Powell tried to prevent an overly bullish interpretation of the meeting, stressing on neutral effects of the exit from accommodation. Therefore, his speech was somewhat inconsistent with the way it was stated in the statement.

The change in dot plot, together with the Fed statement, indicates that the regulator has gained “cruising speed” and is ready to make four rate increases this year and three in the next. The December rate increase is already expected by 12 officials compared to 8 in a meeting in June. Next year, the level of the rate of 3.375% is expected by four officials, against three at the previous meeting. In 2020, dot plot shows doubled confidence on the appropriate rate of 3.675% (6 votes against the previous three). The median estimate of the long-term neutral rate increased from 2.875% to 3%. Other changes in dot plot are less significant.

Updates of economic forecasts

In September, the Federal Reserve raised its GDP forecast from 2.8% to 3.1% in 2018, with fiscal stimulus and good wage dynamics becoming the main factors. Interestingly, the tariffs, in the context of medium-term growth forecasts of the Fed, have virtually no weight: in 2019, GDP is expected to reach 2.5%, after 2.4% of the forecast in July. That is, the tension in foreign trade practically does not affect the prospects for the economy.

Long-term GDP remained at 1.8%, another stone in the garden of Trump, who hoped to increase the productivity and growth of the US economy in the long run. Dampening inflation pressure through fairly aggressive rate hikes has prevented US companies from transferring pressure from input costs and wages to end prices. So the fairness of the current market valuation again raises doubts as company profits may not live up to projections next year.

Powell in his comments finally drew attention to overbought in the stock market but did so very carefully. He said that prices for some assets are in the range of historically maximum values, hinting that further continuation of the rally can draw close attention from the regulator. Stock markets fell on Powell’s comments.

The Fed tried to look as neutral as possible, but a change in wording in line with bullish market expectations will help the dollar to stay on the growth track. The target for EURUSD is level 1.16 – 1.1550, which is likely to be reached next week.

Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.


Tickmill Representative
Italian rumors – the only source of pressure on the euro?

So what’s happened on the economic front since yesterday:

– ISM survey in the US manufacturing sector indicated activity levelling off at a 14-year high. The key indicator in September was 59.8 points with expectations of 60. The growth rate of new orders slowed down significantly, the corresponding subindex decreased from 65.1 to 61.8 points. Assessment of employment in manufacturing sector maintains upbeat outlook on the expansion of the economy (but with a lag as layoffs increase after firms face the slack in consumer demand), the sub-index of employment has grown from 58 points to 58.8.

– ISM survey on prices paid declined compared with the previous reading. This change in the index indicates that companies are gradually catching up with demand by increasing output. In addition, the jolt effect following the US administration-initiated tariff war is also fading away, as companies become abundant with resources. Relieving supply strains is also reflected in the supply deliveries index, which also cooled in September.

Generally speaking, the dip in price pressure on the resource market provides, in my opinion, an insight into how the manufacturing sector responded to inflation outbreak by slowly increasing output which helped to dissipate price pressure which occurred in a discreet fashion. The fact is that firms seeing the swift rise in the price level, faced a choice: consider it a result of increased demand or a consequence of monetary inflation (in our case, the effect of fiscal stimulus in the US). If a firm makes a mistake with a source of price pressure, the increase in output may not pay off, hence it explains the delay in responding to market signals. The case was complicated by the effect of tariffs, which spurred cost inflation and subdued growth of export orders, so the decision to sharply increase production in response to price increases was even more difficult to take.

In short, the retreat of the Prices Paid index says that the adjustment of firms to the economic recovery is most likely completed. Now, on the basis of the nature of crises, the delay is due to an adjustment to the economic downturn. But it will take time since clearly US economy is in a phase of healthy expansion.

The rise in employment component also suggests that manufacturing payrolls will make up for August slowdown in September, which will be reflected in the Friday report. Nevertheless, the manufacturing sector takes modest place in NFP report.

The growth rate of construction costs, an indirect indicator of housing demand, slowed down in August; government infrastructure projects are holding back the decline, while private construction is shrinking. The overall figure rose by 0.1% compared to July, with expectations of 0.4%. In the previous review I had considered the situation with the real estate market in the US and weak demand continues to restrain activity.

The situation in Italy remains disturbing, the government is actively engaged in blackmail in order to solicit another sop from a big brother. On Tuesday, the government received a statement that it would be nice to have its own currency to solve problems within the country. From this position, the risks in the bond increases as a result of their sale continued today. The yield jumped to a level of 3.4%, higher than it was in a panic in May when the market also began to question the membership of Italy in the EU.

The government has so far submitted a draft plan, which should be sent to the European Commission before October 15. In my opinion, this hype and loud statements by the government are purely a political step to maintain ratings. What will be in the final plan may differ from the suggestions made. It is logical to assume that the government understands how dangerous the policy of uncontrolled debt can be, which will not leave anything of their reputation after the debt stimulus runs out. I remain convinced that the European currency remains an excellent candidate for longs, since the source of pressure is now exclusively speculation about Italy. It remains only to see and carefully watch the news where the information about compromises will gradually be included.

Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.


Tickmill Representative
Italy folds to EU’s pressure but the war of words seems to not be over

After two days of heavy sell-off on the euro and Italian bonds as a sign of market dissent with the fiscal course the Italian government, the latter finally came to their senses. As expected, the Italian populists made concessions and announced that they are ready to reduce the budget deficit to 2% in the near future. By 2019, it should be reduced to 2.2% and by 2020 to 2.0%. Of course, this hardly comes in line with EU expectations, although it seems to be a solid argument for euro sceptics to pause pressure on the euro.

Yesterday, EURUSD made a technical pullback holding the support at 1.15, and on early Wednesday jumped to the level of 1.1580, just on the Italian news.

Specific nature of shorts on the euro, i.e. based on particular political risk probably suggest the same rapid recovery when the catalyst charge changes sign. But this does not mean that we should immediately expect a global U-turn. The sustainability of the current rollback of EURUSD depends on what the European Commission responds to the proposal of the Italian government. I recall that, according to EU budget directives, the structural deficit can reach 3%, provided that the country has accumulated a small government debt (about 60% of GDP). It is clear that Italy has gone somewhat beyond the line.

The problem is also exacerbated by the fact that Italian debt is losing its main buyer – the ECB. The regulator expects to complete the asset purchase program by the end of 2018. Other investors will demand a higher risk premium, so in the long run the cost of servicing the debt will increase significantly and the depth of the problem may become comparable to the Greek one. As in the case of Greece, the EU will probably have to make concessions, but it is better to do it now, when their price is not so high.

From the Fed’s Chairman, Jeremy Powell speech yesterday in Boston, there are several points that seemed interesting to me:

· The economy boasts a remarkably positive outlook;

· The Fed has not yet seen signs of inflationary pressure due to tariffs;

· The fiscal policy of the government is not stable;

· The economy is in a historically rare position, when long-term unemployment is at record low levels and wage pressure is not transmitted to consumer inflation.

· The Fed is aware that inflation can take revenge backfiring the later, so the regulator is on the alert and ready for appropriate measures.

· Interest rate is the core thing in the Fed’s toolbox.

The main conclusion is that the Fed does not see significant risks that can potentially change the monetary course. Since the pace of rate increases announced by the Fed has already been priced in the dollar, the prospects for its strengthening are earthy (but lets’ wait for NFP data). That’s why I would consider adding more longs on the currencies of emerging markets, especially the USDRUB pair.

Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.


Tickmill Representative
Powell’s unusual “verbal stimulus” creates storm on the global bond markets

Heads of the central bank have been probably envying Powell’s clarity in recent communication. Dollar sellers hardly believed that the hawkish leg of Fed’s course was over; the chairman made an unusual move signalling it’s too early to relax while speaking yesterday with in an extremely frank fashion regarding the policy of interest rates.

And if market participants presumed earlier that the Fed’s rate hike path takes into consideration both pros and cons in terms of impact on economic growth, yesterday Powell offered to leave only the advantages. In Powell’s remarks, not only the rationale for a cautious approach didn’t exist, that is a somewhat traditional part of the speech of any central banker, but there was also a conscious bias towards excessive optimism. For example, as in Boston, Powell noted that “remarkably positive circumstances” have developed in the economy, and that “there is no reason to believe that this won’t last for quite some time”

Describing behaviours of the wages, Powell said that some important components began to get out of stagnation and that “the Phillips curve is not dead, it’s just resting.” Since real interest rates have left negative territory for the first time in a long time and are barely above zero, the Fed chief believes that for the time being they should be considered as accommodative. Hence, we conclude that the policy of tightening is still in full swing.

But what caused the storm for short positions on the dollar: Powell said that the rates are not only far from the neutral level, but the fact that the rates can overcome this level and remain there for some time.

“The rates still remain characteristic of the accommodation policy, but we are gradually moving towards the neutral point and we can overcome it. But up to this point it’s probably still far away”

Powell’s words stirred sharp strengthening of the dollar against other major currencies on Wednesday, while Eurodollar bears triggered stops 1.15. But already on Thursday, the rally ran into resistance and the US currency pulled back to the level of 95.50. The combination of Powell’s remarks and heightened sanction risks became a painful combination for the Ruble, which lost more than 1% on Thursday. And this despite the fact that oil prices rushed sharply upwards, targeting next “checkpoint” in the area of $90 per barrel.

In light of the Fed’s move to more aggressive rhetoric, labor market data due on Friday is losing some of its significance, as it can be said that the market shifted exclusively to Powell’s words, which significantly expanded the horizon of confidence in the yields of American assets, and therefore in dollar.

The yield on 10-year Treasury bonds rose to new local highs, holding above the 3.2% mark. The sovereign debt of other developed and developing countries also sank in price, and in the light of this, it is interesting to draw attention to countries where the Central Bank targets yields, i.e. in Japan. The yield on 10-year securities rose to 0.16%, but in June the Central Bank kept it at about zero percent. The Bank of Japan, judging by the JGB sell-off is calling off the intervention, but as soon as it announces the next round of “unlimited buying”, we can expect a strengthening of the bearish trend in the yen. In light of the significant deviation of the yield from the target, it may be worth to consider buying USDJPY with a target of 115 yen per dollar.

Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.


Tickmill Representative
PBOC RR illustrates deepening problems in the Chinese economy

The employment situation in the United States continued to develop in September in accordance with the definition of a healthy labor market. The unemployment rate fell by 0.2% to 3.7%, wages increased by 0.3% compared to August. The number of new jobs increased by 134K, which did not meet expectations, but the stability of the dollar after the report proves that the market attributed weakness to the deterioration of weather on the East Coast.

Revised readings of the job gain for July and August changed in a positive direction, which partly offsets the decline in September. The change in jobs in July was revised from 147K to 165K, the demand for labor in August increased by 270K, instead of 201K, which was the previous estimate. Thus, the refined number of jobs for July and August was 87K more than the value of previous estimates. The average number of job gains for three months increased from 180 to 190K.

The market may have paid particular attention to labor demand in the manufacturing sector, which is now the center of attraction for pessimistic views on the American economy. Recall that the manufacturing, in particular export-oriented companies, faced with rising costs, higher Fed rates, lower export prices, were expected to offset the blow by lowering labor costs, i.e. reducing the pace of hiring. September NFP report showed that such assumptions are at least premature, since the job gains in the sector was positive and amounted to 18K. The main contribution to the slowdown in jobs was made by the leisure and hospitality sector, which most likely has been affected by hurricane Florence that lashed onto South and North Carolina. In September, the sector lost about 17K jobs. Retail trade sector, in turn, declined by 20K jobs.

Summary of the report: all eyes were turned to the wage growth change, since it is the harbinger of changes in consumer inflation and thus the Fed’s policy shifts. Salaries in September increased by 0.3% and by 2.8% in annual terms, which corresponds to the lower limit of market expectations (0.3 – 0.4%). Unemployment has already reached the Fed’s target level of 3.7%, somewhat faster than the projected end of the year. Regarding the pace of overall economic expansion, the report turned out to be neutral, as it was more likely to be its confirmation, rather than the basis for expectations on its changes.

Meanwhile PBOC announced fresh steps toward monetary easing, cutting the reserve requirement by 1%, which will additionally deliver 750 billion yuan to the ailing economy. The Chinese Central Bank also reported a decline of $23 billion in currency reserves in September and $8 billion in August. This has already exceeded modest market expectations that the reserves would drop by only $500 million to 3.105 trillion. The only time that China lost reserves faster than this was in 2016.

Unlike recent months, when the yuan sharply lost in value, USDCNY rate was much more stable in September. Apparently, they had to pay for this by selling reserves, which were also devaluated because of the growth in yields of US Treasury bonds and the strengthening of the dollar. Prior to the announcement of easing measures, it was difficult to assess the intensity of capital outflow from the Chinese economy, hence it was done through an attempt to draw a link between the FX reserve changes and the exchange rate. But now with PBOC’s concrete actions it becomes clear that the depreciation of USDCNY to 7 yuan per dollar becomes a very realistic goal. Already on Monday, the dollar strengthened against the yuan by 0.64%, exceeding the level of 6.91. The preparation of the Chinese authorities for further yuan diving has been probably completed, as seen from the period of strengthening of the yuan from August 15 to August 27.

While the manufacturing sector in China is trying to recover from a blow in foreign trade, the service sector is growing at a very fast pace. The Caixin report, which focuses on private enterprises, showed that activity in the sector grew at the highest rate in three years. The main indicator rose to 53.1 points in September.

The surge in activity in the services sector will definitely be a favorable signal for the authorities trying to shift the center of gravity in the economy from production to consumption. However, a sharp contraction of employment in this sector can speak about increasing stress, in particular, an increase in costs for enterprises. Thus, the subcomponent of employment fell to 49 points in September, which is below 50 points separating growth and slowdown.

Oil prices post rapid pullback today, as the US administration decided to introduce relief measures regarding oil sanctions, allowing some countries to keep buying Iranian oil in a small amount. Saudi Arabia, in turn, said that it would be able to cover the market deficit driven by the blockage of Iranian exports. Thus, there is some overbought on the market, as recent purchases were based mainly on expectations of a strong deficit due to Iran’s withdrawal from the market. The lack of positive drivers will probably allow the bears to seize the initiative and further pullback of Brent will be the topic of trade this week.

Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.


Tickmill Representative
Yuan starts to feel the pain of the Chinese economy’s slowdown

Chinese authorities hiked the exchange reference rate of USDCNY to 6.9019 yuan on Tuesday. From the perspective of traders this became the guidance to short yuan further, which they actually did. This also stirred more concerns about the growing weakness of the Chinese economy.

Asian stocks fell to a 17-year low on Tuesday as the slowdown of the stock market in China spreads to neighbouring regions. PBOC’s move to softer credit policy has become even more worrying after the state newspaper confirmed concerns by releasing an article about why government should push stimulus pedal to shore up economic expansion.

Growth forecasts for the IMF added gloom to the market mood which suggested that the global trade tensions do not bode well for growth and economic activity in the United States, Europe and China may soon slow down.

Traders pushed yuan to 6.9320 against the dollar on Tuesday, taking advantage of the fact that China is ready to cede ground in the foreign exchange market. The devaluation can have a positive effect on exporters though, so ShCOMP edged higher on this assumption, but this was a rather cautious move. The nature of the bullish rushes in Chinese stock market, against the backdrop of capital outflows from the Chinese economy, should be attributed to technical corrections rather than growth attempts. This Monday, China’s largest stock index collapsed by 4.3% (“mini-black Monday”), which was the most severe reaction of investors in the past two years.

Asian indices as a whole are also experiencing a decline, the broad MSCI Asian index continued to fall, closing Monday at a minimum of 15 months.

It is highly likely that Trump’s threats to punish China for currency manipulation will start to appear soon, given that one of US Treasury official expressed concern about how rapidly the yuan is losing ground. There are also rumors that this week, the head of the US Treasury Department, Mnuchin may meet with his Chinese colleagues which may help contain the wave of sales.

Obviously, the main threat to growth comes from the outflow of capital from the bond market, as it increases the cost of borrowing, which may weigh on capital expenditures. The whole process unfolded with a new force after Fed Chairman, Powell, took a very aggressive verbal position last week, unexpectedly saying that investors were lagging behind the Fed’s rate hike forecasts. The yield on US T-bills on Tuesday reached 3.24, a maximum of seven years.

The VIX volatility index jumped by almost 6% on Tuesday to a level of 15.7. The volatility sellers are finally taking a break, as this creates the right moment in the form of uncertainty in the Chinese economy.

The scope and speed of the bearish impulse in the bond market may mean a shift in the “collective assumption” of the market about the outlook of US economy and the implications of Fed policy. To do this, just look at the change of futures for the Fed rate, which reflects the change in expectations from 2 to 2.5 rate hikes in the next year.

Euro remains fragile frustrated by the separatist penchants of the Italian government also another emerging risk is the slowing growth which can be spread from China to the Europe. There is a risk that the pair will go below 1.14 by the end of the week, since October 15 will be the deadline for Italy to submit a budget plan to the European Commission. Despite the contradictory statements, the market has no clear signals about a possible compromise.

Gold got completely knocked out on Tuesday, dropping to 1182, but was quickly bought off. China troubles and the risk of rising yields in the United States make the yellow metal even less appealing for long. The target for gold is to re-test levels below, in particular the August lows at 1160 per troy ounce.

Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.


Tickmill Representative
Will the Fed continue to hike rate aggressively?

The stock market crashes, growing trade tensions with China, low growth forecasts from the IMF, and even Trump’s verbal attacks are likely to not be able to stop the “insane” Fed from further rate hikes. There is a serious reason for this – the development of the economy is still in accordance with the forecasts of the central bank.

Thursday inflation figures revealed a slowdown in price growth from 2.4% to 2.3%, which nevertheless remains near the target level of 2%. At the same time, the absence of inflationary pressure is accompanied by record-breaking low unemployment, which makes it possible to contain consumer inflation expectations around a long-term equilibrium. All historical periods of high employment were usually accompanied by an out-of-control inflation, which led to a recession. The fact that the economy is in “historically rare” conditions was said by Fed Chairman Powell in his last speech, which is the “core” of the aggressive plans of the regulator to tighten the policy. It is unlikely that the Fed has changed its mind in the last 48 hours, just on the basis of the pullback of the stock market, less upbeat IMF forecasts, and discontent from Trump, who called the Fed’s actions “crazy”.

It is curious that the market also does not believe that the Fed will abandon its plans: despite the correction, the probability of the December rate hike, according to the futures market, rose to 81.4% compared to 74.4% last week.

Gradual rate hike process up to 3% or higher next year may not allow the economy to grow at an impressive pace, but will take control of inflation, which leads the list of warning tokens before the crisis. On the eve of the 2008 recession, the prices had been growing at 6% pace; in previous periods of crises, the pace was also high.

Now when there is a choice between keeping expansion slower but long or impressive but short, Powell won’t repeat the mistakes of his predecessors and will subdue the risks of overheating now. One of them was, of course, the stock market, where the continuous flow of buyers put the rationality of growth in question. However, no one expected the Fed to slaughter the “sacred cow” in such a rough way.

In the presidential administration, not everyone shares Trump’s position regarding the Fed. Close Trump aide Larry Kudlow, when asked to comment on Trump’s comments said the central bank is “on target” and the possibility of a rate hike is a sign of “stable economy, which should be welcomed than feared”.

Robust hiring in the United States has narrowed the jobless rate to unprecedented levels in the last 50 years. In September, unemployment fell to 3.7% while wages rose by 2.8% in annual terms. The inflation rate of 2.3% means that the growth of real incomes has accelerated, which could give an additional impetus to consumption.

The correction in the stock market led to a reversal of the yield curve, which took alarming shape due to the diverging views of the market and the Fed regarding the pace of rate hikes. A part of investors from the stock market flew to short-term Treasury bonds, so the spread began to grow again. The short-term cost of borrowing thus began to change in a more favorable direction:

The only cause of concern remains the “welfare effect”, which adversely affects household incomes in the event of a fall in the stock market, as their assets depreciate. Accordingly, a long-term bear market in shares can stifle consumer optimism and business confidence, risking turning firms and households to the “savings” mode.

Major US stock indexes closed in the red on Thursday, the S&P 500 broke the 200-day moving average down, which is slightly worse than the situation in February, when the technical level effectively kept the fall. Nevertheless, the current pullback is not something extraordinary, since the history is full of 5% corrections during the expansion leg.

Today, data on export and import prices in the US, as well as consumer confidence from W. Michigan, are due to release. The stock market is likely to cover shorts, which should be supported by positive outcomes in the data.

In my opinion, the market could be preparing for the New Year rally, as the rollback of the stock market initiated by the Fed is somewhat different from the decline during the recession. Therefore, if the economic data continues to give signals of steady growth, the market panic will be short-lived.

Please note that this material is provided for informational purposes only and should not be considered as investment advice. Trading in the financial markets is very risky.


Tickmill Representative
The Fed is waiting for inflation but it’s not here yet

The main contribution to the rise in prices for imported goods become fuel price growth. In September, an increase of 3.8% was the most dramatic change since May, when fuel prices recorded a 6.1% increase. If you break the fuel inflation into gasoline and gas, then you can see that the prices for the former product increased by 4.1% and this is only in September. And now we can understand Trump’s oil tweets, as the rise in gasoline prices before the November elections could hit Republican positions.

It is noteworthy though, that apart from fuel, prices for imported goods remained virtually unchanged in September. Higher prices for food, food and beverages offset the decline in prices for products for industrial needs, materials and consumer goods. For the American consumer, this is positive news, since wages are rising, and prices are stagnant, so consumer optimism should remain high.

From the details of the export price report, it is worth noting the deterioration in the terms of trade with China. At the same time, it is interesting to discern the damage for both sides in the trade data, since rumors have so far been on the side of the United States. First, export prices to China fell by 1.7% last month, which was the largest decline among major US trading partners. In July and August, this figure also declined, and in July the decline was 2.2%.

Indices of the terms of trade (purchasing power of exports vs. imports) also changed not in favor of the United States. I note that the fall in export prices to China is stronger than the fall in China’s export prices in the United States (that is, the demand for Chinese exports to the United States has turned out to be more resistant to the trade war). Perhaps this is why we are seeing statistics on changes in the US trade balance with China that are unpleasant for Trump, which points to China’s rising gains in trade to a maximum of six months.

On Friday, US consumer optimism data from U. Michigan hit the wires though not as upbeat as expected. The rebound in the indicator is now probably one of the main hopes for the Fed, as in the conditions of tension in foreign trade it is necessary to rely on domestic consumption. In September, this figure was 99 points, which is 1.5 points less than in August. From April to August, the indicator steadily declined, therefore, with a slight pullback in September, an ambiguous impression is taking shape. A weak rise in import prices and control of inflation expectations will most likely be supported by optimism, therefore, from this point of view, the Fed has no reason to deviate from the aggressive course.

The growth of the VIX and the resumption of the downward movement of the dollar create the basis for weak buying activity at the opening of the New York session today. The more severe fall of the S&P 500 than expected, namely the breaking of moving averages does not allow buyers to quickly buy back the decline despite the fundamental prerequisites for this, for example, the Fed’s confidence. Therefore, pulling the ropes around the 200-day moving average may continue this week.

The US sector was well bought off last week, but things are not so good at premarket. The major stock locomotive i.e. group FAANG dropped at premarket, which points to the weaker start in NY. The best choice in this case is to sit on the fence and wait for the reversal in sentiments

Oil prices are gradually turning into a rise on the threat of US sanctions against Saudi Arabia. The disappearance of the Washington Post journalist after visiting the Saudi embassy in Turkey resonated on the Kingdom’s stock markets after Trump promised severe punishment for those involved in the incident. The Saudi King promised to revenge.

Of course, the threat is still very weak, and it is unlikely that it will reach sanctions comparable to Iran. But the sudden cancellation of US investment banks on a trip to an investment forum in Saudi Arabia says that the emergence of the conflict between the two countries should be kept on the radar. Speaking about the revenge of the Saudi King, we can recall Trump’s calls to restrain the rise in oil prices. In the event of an escalation, Saudi Arabia can hurt, restraining production so that energy prices soar, and Trump would face an unpleasant surprise in the form of expensive gasoline before the elections.


Tickmill Representative
VIX collapses to long-term mean indicates return of market bulls

VIX virtually collapsed on Tuesday, dropping by 17.28%, indicating how quickly the volatility sellers took up their usual business, betting on halt of the storm in the US stock market. Why invent something new if there is statistical arbitrage and mean-reverse strategies that still work? Now the index is close to 15 level long-term mean level, hovering near 17 points. The relief came after the release of corporate earnings data in the US banking sector (beating forecasts) and the industrial US figures where expansion continued in September.

The three major Wall Street indices won back almost 2 percent on Tuesday, after the largest banks in the United States reported an increase in profit ahead of expectations. The profitability of the banking sector is now on the rise due to increasing interest rates, which allows to hike borrowing costs for the firms, while some liabilities have been benefiting from past low interest rates. As a result, bank profits are growing.

Data on industrial production in the United States indicated an increase in output for the fourth month in a row. Rumors have been swirling around the input costs, mainly rising oil prices, as well as tariff cap on export prices. The growth led by manufacturing and mining industries, but the growth momentum waned in 4Q. In October, the growth came at 0.3% after rising 0.4% in September. Export prices for US industrial products remained relatively flat in September, while oil imports advanced by 3.5% in the same month. Here we see the direct link between compression of corporate margins of “energy-intensive” industries and widening gap between export and import prices and the inability of producers to transfer inflation to final prices for external consumers.

September Fed minutes are due today later, which will once again help to assess the trajectory of the interest rate. Dollar and other relevant assets’ response is likely to be muted, because after Powell’s remarks on the pace of rate liftoff, a soft tone in the protocol, to put it mildly, would be inappropriate. Because of the Fed’s confidence in its policy course, the search for bearish hints will most likely be unsuccessful. The chances of a rate hike in December remain at a fairly high level, about 80%, so for the recent pullback in the US market it is difficult to find a more elegant interpretation than a “brief loss of consciousness”.

There is another view which says that the market has a vision of US economy growth diverging with the Fed’s one, but this view should rely on something, at least on fundamental data. While the key parameters of the American economy and corporate reporting does not give cause for disappointment.

UK wage growth data helped the Pound to strengthen yesterday, but today it can give up the territory if consumer inflation goes below the forecast. Although the effect of inflation can be interpreted in two ways: on the one hand, weak inflation and strong wages give rise to a combination of increased consumption, on the other hand, we should expect the Bank of England to delay the increase in interest rates in order to support expansion. Consensus view on the impact of the data is not completely clear. It will be useful to look at retail, production and import prices to clarify the prospects of consumption.

Regarding the European currency, its further movement can be determined with the release of consumer inflation in the Eurozone for September today. This will be the final data, which will most likely indicate a lack of change, with a key indicator at 0.9%. Together with fuel prices, inflation can accelerate to 2.1%, which of course has a negative effect on European manufacturers. Unlike US companies, they can only count on external demand, as domestic consumption remains weak. After yesterday’s weak indicators of optimism from ZEW, it is difficult to expect a positive surprise from consumer inflation. Therefore, in my opinion, short positions in European currency remain preferable.

Gold prices extinguish a jump in panic, as the rollback of US stock indices, stable expectations at the Fed rate, raise the issue of the asset returns. Yesterday, gold was supported by the comments of the Chinese Central Bank, which stated that the Chinese economy is in “good shape.” Prospects for the growth of defensive assets, including gold, remain unclear, especially against the background of a rapid recovery of sentiment in the stock market, therefore shorts with a target of $ 1,210 – $ 1,215 are preferable.


Tickmill Representative
Oil prices fall as Saudi Arabia assumes a dominant role in energy market

Sanctions on Iranian oil and the risks of political isolation of Saudi Arabia after the murder of a journalist have created a ground for reflection about the supply shortage as a new, permanent reality. On Tuesday, Saudi Arabia once again tried to halt the development of such rumors, saying that it completely feels and acts as a stabiliser on the oil market. Moreover, according to the oil minister, the kingdom is about to increase its exports of crude oil in response to a decline in Iranian supplies and will continue to expand its reserve capacity.

Oil prices dropped on the statement, with two major grades depreciating unevenly: WTI dropped 1.6% at the time of writing, while Brent lost much more, about 2.4%.

Different amplitude of decline allows to establish cause-effect connection between comments of the largest producer of OPEC and the reaction of the market to them.

Washington’s sanctions against Iranian oil enter into force on November 4th. Several US allies in Asia, for example, South Korea and Japan, have already struck Iran out of the list of energy suppliers. Already in September, the import of oil from Iran to South Korea was 0, showed the data of the national oil corporation of the country.

The Halliburton report, a company serving oil companies, pointed to disturbing trends that are developing in the American oil market. According to the report, in the fourth quarter production volumes on the mainland will go down due to congestion of pipelines in the Permian basin. Due to physical constraints, the pace of production will remain insensitive to price fluctuations, including favourable price moves for producers. The demand for Halliburton services as well as the Schlumberger, according to their own forecasts, will remain moderate, reflected in profit forecasts that didn’t met expectations.

Oil production in the United States faced limits in the summer of this year, when the hydrocarbon production pace reached a record level of 11 million barrels. The introduction of new production capacity is slow, firstly, because the US oil companies have accumulated large debts during the low oil prices for 2014-2016 and need to pay them off, and secondly, it is unknown how long will continue the phase of expansion of the world economy (which will provide a stable demand) Thirdly, the strategy of the main competitor (i.e. OPEC) may change from stabilisation measures in favour of the regular competition for a market share, since production quotas have already done their job.

As can be seen from the outlook of production in the US, 50% of which is shale production, it is already less actively overcoming past highs, fluctuating around the level of 11 million barrels.

It is interesting to trace the change in the futures curve as a result of sanctions on Iranian oil and lagging growth of OPEC production needed to compensate for the decline. Most of the cartel’s contracts are on spot market, and the shortage because of Iran should ideally have a greater impact on spot or near-term contracts. Recall that Trump reintroduced sanctions against Iran in early May.

From the chart, we can see that the futures delivery in July was about $ 72 a barrel, and in October, the futures for the same delivery was just over $ 80. Moving to more distant terms of deliveries it is clear that the difference between the purple red line is getting smaller and is quite insignificant on the futures with delivery in 73 months.

From this, we can conclude that despite the various political backgrounds in purchasing / refusing to buy Iranian oil, sanctions against Iran really “work” and supply has really diminished. At the same time, OPEC is in no hurry (or cannot) increase supplies with the same pace to compensate for Iranian barrels. Today’s announcement by Saudi Arabia of its intention to stabilize the market has, of course, become an unpleasant news for those who have made a bet on widening market deficit.

Looking at the Commitment of Traders data, the link between speculators’ bullish bets and real growth in oil prices disappeared at the end of the second quarter of this year, which is rather unusual.

From September last year until April 2018, the recovery of prices corresponded to an increase in long positions of speculators (brown lines). However, starting from April-May this year, speculators cut long positions, possibly wagering on falling prices, but the market continued to grow. The net long position of traders for the period under consideration decreased from more than 700K to less than 500K. That is, it turns out that prices could pull up not on speculative pressure, but due to fundamental shifts, while high uncertainty could make speculators even mistaken.

Now focus is on Saudi Arabia’s policy of increasing production. If the increase in production is less than necessary to compensate withdrawal of Iran from the market, then oil will have all the chances to extend gains, despite the weak start this week.