Tread cautiously in EM
(Peter Rosenstreich, head of market strategy)
Markets are currently repricing in three Fed rate hikes (four in 2018), which is forcing the US yield curve higher. The complacency in the market to price in faster rate hikes looks to have diminished. While the USD has gained versus the G10 (especially commodity-linked currencies NOK and NZD), widening interest rate differentials and softer commodity prices have not supported broad-based EM selling. In fact, EM currencies have widely improved against the dollar. Part of the rationale of the lagging behavior is due to signs of reflation, which should push policymakers to manage accommodating policy correctly. In addition, the delay in the US trade policy has provided EM with a bit of macro-head winds respite. Yet, with 8 trillion sitting in negative yielding sovereign paper, the probability that higher US rates will attract flows driving USD higher has significantly increased. Further, EM volumes seem to be completely mispricing the risk relating to Fed tightening and global protectionism. As markets price in a quicker rate of Fed hikes, low yielding EM currencies, already behind the curve, will come under selling pressure.
Oil caps worst week since November
(Arnaud Masset, market analyst)
The West Texas Intermediate is about to post its largest weekly decline since the first week of November when it dropped 9.50% to below $45 a barrel. This week, the WTI slid almost 7% as it dipped below $50 a barrel for the first time since the November OPEC “supply cut” deal. The move was initiated on Wednesday after the EIA reported that US stockpiles had surged by 8.2 million barrels in the previous week, more than four times what the market was expecting, pushing US inventories (excluding strategic reserve) to an all-time high of 528 million barrels.
The market has begun to consider the possibility that OPEC and certain non-OPEC members such as Russia, who initially agreed to curb production back in November, may now be backtracking on their promise. Indeed, the US shale industry was the primary beneficiary of this “supply cut” as shown by the massive rise in rig count (+38% or 168 new wells since November last year). In this fight, the US has been continuously increasing their market share on the back of those who agreed to cut production.
On the top of this, the market positioning on the NYMEX had reached extreme levels recently as the total net position reached 387k contracts. Even back in June 2014, the market wasn’t that bullish (348k net long). Therefore, we believe that there is room for further downside move in crude oil prices. Investors were betting that the recovery in prices would be proven sustainable as the main oil producers seemed to have found an agreement. We would not be surprised to see OPEC and Russia back-pedalling on the “supply cut” deal as it is clearly to the advantage of the US right now. We expect further weakness of crude prices as traders unwind their long positions, with $45 a barrel as the next target.
NFP report irrelevant as Fed hike is a done deal
(Yann Quelenn, market analyst)
After the massive ADPs on Wednesday, which came in slightly below 300k, financial markets are now awaiting confirmation from the NFPs, which are expected to come in for February lower than the January print, 200k vs 227k. From our standpoint, this read is irrelevant as it will have little impact on the US central bank’s decision concerning the raising of rates.
Despite the occasional spectacular miss from the ADP, we would not expect a low NFP read. A weak read could drive the dollar lower, knowing that there is room for disappointment as a rate hike is now priced in by the financial markets.
Moreover, there is the increasing probability of rate hikes at the next meetings. We reaffirm our belief that the Fed will not raise rates above 2% for the next two years as it could trigger a much deeper crisis.
The dollar should remain strong and while today’s NFPs are likely to be a non-event, one should not forget Trump’s stance that the dollar is too high. For the time being, European uncertainties are definitely sending the greenback higher.