Wall Street ends lower again but China rate cut calms nerves
US yields pull back, knocking the wind out of the dollar
Gold hits two-month high, ECB minutes and Netflix earnings eyed
Mood improves, slightly
It has been a stormy week for global financial markets, with riskier assets such as equities taking a beating at the hands of rising interest rates. The Nasdaq closed another session sharply lower to officially enter correction territory, which is defined as a drawdown of 10% or more from record highs.
The striking part was that even a pullback in US Treasury yields was not enough to stop the slide on Wall Street yesterday. We seem to have reached the stage where risk aversion begins to feed on itself, leading nervous investors to rotate towards bonds again just for protection.
On the bright side, the mood has improved a little on Thursday. A cautious sense of relief is coursing through global markets after the People’s Bank of China cut its mortgage lending rate, sparking hopes that tighter monetary policy in other economies will be at least partially negated by China going the opposite direction.
‘Buy the dip’ still alive?
The question now is how much longer this correction will persist. The good news is that there will come a point where the spike in rates will become self-correcting, and we may be nearing that point.
Once US yields reach a sufficiently high level such that foreign investors can hedge their FX exposure and earn returns much higher than local bonds, there will likely be enough demand to put a lid on Treasury yields and thereby calm the stock market.
Similarly, Fed expectations have already come a long way, and betting on even faster ‘shock and awe’ hikes seems unrealistic here. This suggests that we may be approaching ‘peak fear’ in the near term, especially if the tech heavyweights report solid earnings next week.
Of course, this doesn’t mean the situation can’t get uglier. Markets have a tendency to overshoot both on the way up and on the way down. Ultimately though, central banks are normalizing because their economies are strong, so there’s no real sense of panic. Several players are likely keeping some powder dry, waiting for equity valuations to approach more reasonable levels before reloading.
FX market quiet, gold shines
Over in the FX space, it was a relatively muted affair. The pullback in US yields knocked the wind out of the dollar, yet the retreat was minor. Meanwhile, the Australian dollar received a boost after the nation’s unemployment rate hit a five-decade low and China signaled it will relax some rules for its embattled property sector.
But the real action has been in the commodity sphere lately. Oil prices continue to defy the sour mood in equity markets, focusing instead on the covid endgame as nations prepare to downgrade the disease to an ‘endemic’ and the potential for greater supply disruptions if Russia pulls the trigger on Ukraine.
The price action in gold has been exceptionally bullish too. Bullion blasted above the $1830 region yesterday to hit a two-month high, capitalizing on the faintest of pullbacks in real yields and the dollar. This screams of a market that wants to go higher, as gold took almost no damage while yields soared this week but traded like a rocket the moment they retreated.
As for today, the spotlight will fall on the minutes of the latest ECB meeting. This is usually not a market mover for the euro, but the discussion around the decision to slow asset purchases could be interesting since money markets are pricing in a rate hike for this year. In earnings releases, all eyes will be on Netflix.