After an unforgettable start to the week, US equity futures ended Friday at virtually the same level it ended the week before, and right before waterfall sell-offs on Monday. Treasury yields actually ended a touch higher, albeit still much lower than July levels. Was it all a tempest in the teapot after all?
Underneath the surface, more pronounced trends of rebalancing could be seen with high flying stocks underperforming, and the equal weight SPW outperforming the cap-weighted SPX for a 5th straight week. Markets will be focused on corporate earnings this week, especially on the consumer sector, in order to gauge whether the larger than expected slowdown in consumer spending will be confirmed via bottom-up earnings data.
Sentiment was helped with a larger than expected drop in initial claims mid-week, questioning the market’s wisdom on its sudden calls for a hard-landing. Economic data will be sparse this week outside of PPI/CPI, but the Fed’s current asymmetric focus on the labour market has likely dampened the focus on inflation data in the near-term. Negative supply shocks from tariffs, energy prices, and immigration curbs could surprise price data on the upside, but those are likely to be offset by softening wages and more significant deceleration in shelter prices to take inflation back towards the Fed’s long term target (economists expect ~0.18% MoM for Core CPI). Furthermore, recent Fed speak from Goolsbee and Daly have also tried to talk down the recent panic by stating that markets were ‘over-reacting’ to the July jobs report, a view that has been vindicated over the past week.
With that being said, we do expect markets to trade on the back-foot and counter-trend rallies to be limited, at least into Jackson Hole, given the extent of the forced liquidation and PNL damage suffered in the early part of last week. Furthermore, with the oft-quoted ‘Sahm rule’ being on the cusp of being triggered, investors will likely require additional hard economic data to confirm that the economy isn’t about to enter into a hard landing, and the recession indicator having a strong predictive record for asset prices despite its limited data-set.
Taking a closer look back at market structure, it also does seem that the internals are weakening with diminishing liquidity being a headwind for risk sentiment in the near term. Global central bank liquidity changes remain in negative (withdrawal) territory despite recent PBoC eases, while excess bank reserves and RRP balances have continued to dwindle in recent weeks. Furthermore, secondary liquidity in US markets has fallen to the lows of the year as dealers dial back risk-appetite, and are unlikely to make a convincing recovery at least until Q4. JPM estimated that ‘three quarters’ of global carry trades are now unwound, with risk pods likely to need a long cool-down period and re-assessment before putting significant risks back on the table.
Speaking of carry trades, the Japan story appears to have fundamentally changed, with a lower USDJPY likely to have put a premature ending to the BOJ hawkishness. With the BOJ taking excessive heat (unfairly in our eyes) and being blamed for setting off last week’s derisking cascade, their governing board will nevertheless be forced to take a more cautious view on additional hikes, especially with a lower FX likely pressuring inflation lower in the coming months. In fact, deputy Governor Uchida recently clarified that:
“the Bank needs to maintain monetary easing with the current policy interest rate for the time being, with developments in financial and capital markets at home and abroad being extremely volatile”
“the Bank will not raise its policy interest rate when financial and capital markets are unstable” and
“as a result of the correction of the yen’s depreciation, the upside risk to prices arising from higher import prices has decreased accordingly”
all of which are highly suggestive that the BoJ will be back to their muted dovish shelves in the foreseeable future.
Back on the US, with VIX likely to elevated in August even as the macro data calendar slows down, we expect to see sharper individual stock movements into and out of their quarterly earnings results. Particular focus will be on names such as Walmart and Home Depot to gauge the underlying strength of consumers, with high frequency credit card data pointing to softer retail sales for July. Traders should be alert to the performance of the consumer basket (e.g XRT ETF) vs the overall index for more ominous signals of another leg lower in consumer sentiment.
As the dust settles, different macro assets are currently ‘forecasting’ differing recession risks based on historical trends, with treasuries and commodities being the most ‘forward looking’, and stocks and credit being the most non-chalant about a hard-landing, as is the usual case.
Over in crypto, sentiment remains more challenged as BTC has taken the brunt of the damage against the ‘yen unwind’ based on a 2-year correlation factor. In reality, this is just another way of saying that crypto continues to trade like a leverage Nasdaq as a frontier risk asset, and we would expect prices to continue following the ebbs and flows of overall risk sentiment rather than any core ‘diversification’ argument.
In terms of technical signals, on-chain data from 13D and Glassnode have shown that BTC have crashed through its short-term and 200 DMA on costs, with little support until the ‘True Market Mean’ (aggregate avg of all on-chain acquisition prices by investors) at around $47k as a reference point for mean reversion models.
Furthermore, the on-chain MVRV ratio (Market Cap vs Realized Cap) has fallen beneath its 1-year average, which has signaled a more protracted downward sell-off in the subsequent period. Conventional momentum indicators from the likes of JPM suggest a similar conclusion.
Overall ETF inflows have been disappointing in recently, particularly on ETH, which has seen a net $400M in outflows since the product inception on July 24. In fact, data from Bloomberg shows that BTC price action has been strictly through the US (ETF) hours since January, with all of the YTD gains in crypto happening in the ‘after hours’ (ie. Asia time) as markets have effectively front-run the NY open.
Astute and long-term students of the market will recognize this to be the same phenomenon as stocks, where all the ‘fun’ happens before the NY open, and index performance has generally been flat if you were a ‘US Day trader” only.
So is the moral of the story to buy the US close, and sell the US open? As usual, since we don’t offer any investment recommendations on our writing, we can only suggest to our Asia-based readers to always get a good night’s sleep instead of ‘burning the midnight oil’ to trade the US session!
