The Federal Reserve has effectively given the green light to a December rate hike, that is as long as we don’t see a major disruptive event playing out between now and 14 December. The fact that oil prices are in freefall will not help clarity here, given that the Fed’s overnight statement was fairly upbeat around the recent rise in market based inflation expectations (the bond markets inflation expectations over five years has increased from 1.44% in June to currently sit at 1.91%), but this move in inflation expectations was largely driven by a rally above $50 in the barrel.
The Fed has also signalled that they are somewhat more concerned with household spending, which again may be impacted if the financial markets throw a wobbly on confirmation of a Trump victory. One suspects it could be even worse (and actually fairly likely) if one of the candidates disputes the validity of the election, potentially opening a ruling by the Supreme Court, which of course Clinton or Trump would need to accept.
One suspects that this election could take an even bitter turn and the financial markets would not know where to look and in this environment the probability of a December rate hike would fall from the current 78% being priced into the interest rate markets, to closer to 20-30%.
So a hike in December is still the base case however, there is this mountain of uncertainty that could derail the Fed’s thinking. Still, given that the Fed is not a political organisation, it would mean the markets and overall financial conditions would have to push them to keep rates on hold.
Janet Yellen would feel it very unwise to be hiking when equity prices are falling, corporate credit spreads are widening and volatility is rising, that could be one way to push the US economy into a recession. One suspects this may have also played into Boston Fed president Eric Rosengren's thinking and after dissenting in the September meeting (on grounds of financial instability) and calling for a hike, he now feels rates should be on hold.
The move to take risk off the table continues, with strong moves lower in European stocks (the Stoxx 50 index fell 1.4%), not helped by a higher EUR/USD. The S&P 500 is down for a seventh day and eyeing the record for consecutive down days set in 2008 at eight. So US markets are nearly in uncharted territory and it doesn’t feel like we are at that point of peak negativity and time for contrarian positions.
US crude is a further 1.7% lower from the ASX 200 close, falling to a low of $44.96, after what can be described as a tidal wave of oil dropping onto Cushing, Oklahoma, with the weekly government inventory report showing a massive 14.4 million barrel increase. That is the biggest increase in the weekly inventory report since records began in 1982!
The market continue to find solace though in the JPY, CHF and gold and these seem to be the places to hide and ride out the US election. Interestingly, Paddy Power (the bookie who recently paid out on a Clinton win) said overnight that 91% of their last minute flow was on Trump. William Hill said words to this effect a few weeks back and that it was the sheer weight of money that was creating such certainty behind Clinton’s odds.
But in a similar vein as the UK referendum, we can see a dominance in the absolute number of bets for Trump, although ‘value’ is helping. The interesting thing (if we look at the RealClearPolitics average poll chart) we can see it isn’t just that Clinton (represented by the blue line) losing ground, we are actually seeing the polls turn for Trump (red line).
Turning to the Asian market open, it looks as though we are going to see another negative start. SPI futures are down 16 points and eyeing a test of the 14 September low of 5137, and I would expect a bounce from this level, so that is one for the trader radar. We see the ASX 200 cash market testing and potentially opening below 5200 this morning, with all eyes on ANZ’s results this morning, although they’ve been in then news already quite a bit with its sell down of Asian retail banking and wealth operations.
Material names have strongly outperformed of late, but there was some rotation into the safety of staples, telco’s and utility names yesterday and the combination of a 1.1% drop in iron ore futures overnight and a sharp drop in oil should see material and energy names lower on open. Clearly gold stocks are looking good in this market.
We have reached a point where there is a buyers strike, where money managers have reduced their risk, increased cash allocations within the portfolio and happy to ride out this mini-storm of uncertainty. This is a perfect breeding ground for short sellers who love the combination of uncertainty and lack of bids.