A policy panacea greets the “red herring” School of Economics

S&P 500 gained 0.5% to 3020 as the markets prepare for a policy panacea brought to you by a dovish central bank in your region. Investors continue to adopt the “red herring” school of economic policy that bad financial news is good for stock markets as it leads to strong monetary policy responses — sort of like putting a bandaid on a broken leg.
Stephen Innes
A policy panacea greets the "red herring" School of Economics

Frankly, I’m amazed at how doom and gloom as forewarned by the terrible global manufacturing PMI’s can exist side by side with surging equity markets.

I’m a massive PMI signals trader, and maybe I’m reading far too much into my models.

But our data projections suggest it will be the US manufacturing weakness spilling over into the services sector, not the services sector lending support to the manufacturing data. When this happens in September or October, it will trigger one of the most significant US dollar and US asset sell signals of the year.

But for the short term anyway, their remains some semblance of Fed credibility that their proactive rate cut with the US economy not particularly weak will put breaks on the scale to which the US economy will decelerate in the next six months. The Fed policy cure-all medicine has US investors charged up despite a rapidly deteriorating global macro landscape.

Oil markets

Supply factors usually drive the oil market, but the last few months demand is in the driving seat
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Any hope that the massive inventory draws would placate investors demand concerns quickly gave way to the one-off transitory effects of Storm Barry, as traders dialled in on the horrendous global manufacturing PMI prints which left a banquet of carnage in oil markets overnight.

It’s not economic uncertainty we should be worried about rather its the doom and gloom economic realities that the key forward-looking manufacturing PMI’s are telling us about the dismal health of this rapidly deteriorating global macro environment.

Not even the thought of monetary medicine on the way was enough to mollify these dreary manufacturing concerns. And to rub salt in oil bulls’ wounds, the IMF cut its global growth projection and warning that policy “missteps” on trade and Brexit could derail any policy infused rebound.

Of course, knowing the OPEC policy compliance remains sturdy, and with Global central banks preparing to unleash torrents of cheap money, its unlikely Oil markets will fall off the cliff.

Gold markets

When economic uncertainly intersects the doom and gloom reality of deteriorating global macro landscape, owning gold insurance moves from a best practice to an absolute necessity in one’s portfolio.

Central banks around the world are readying the markets for a deluge on policy easing. Indeed the downtrodden global PMI’s suggest quantitative-easing taps look closer to being turned by the week, and this weaker run of US manufacturing purchasing managers index data will likely encourage the Fed to deliver an ultra dovish rate cut.

But the manufacturing PMI drops are not an isolated issue but rather a global phenomenon.

US Manufacturing PMI is on the cusp of contraction, which likely has investors wondering what the Fed knows that we didn’t.

The Eurozone PMI is a sore spot also, as German manufacturing went even deeper into contraction territory and the ECB’s lower bar to new easing is getting more justified by the day.

Gold got a boost from rising no-deal Brexit probabilities, which also significantly increases the odds of QE on the continent.

Frankly, the only reason why gold is not testing this year’s highs is the rally gave way to a stronger USD, slightly improved US-China trade news flows and a high degree of investor caution knowing that substantial speculative length has built up above $1,400 and that gold markets reaction function will be asymmetric to the Fed’s post rate cut messaging.

With the global race to the bottom for fiat currencies unfolding as virtually every policymaker favours a weaker currency, Gold will be left at the top of that towering central bank mountain of cash. Signalling that owning gold insurance has moved from the best practice to almost a necessity to have in one’s portfolio

Currency Markets

USD

Fed policy is no longer the driver of the dollar growth is

Euro

The Euro continues to struggle under the weight of deteriorating soft and hard data all but assuring a dovish policy response for the ECB

Fed effect

Capping the dollar momentum is Fed policy which s expected to lean very dovish next week after forward-looking economic indicators offset the recent decisive run of backwards-looking hard US financial data

Pound

There’s a lot of policy and rhetorical poly filler neutralising the short term adverse effects of no Brexit divorce, but the market remains, an aggressive seller of Pounds, as the “ Boris Cable on Offer “ signal remains alive and well.

Yen

Dollar Yen remains supported by the debt ceiling agreement and the favourable US equity environment. Although when rates go to zero, this should typically favour the Yen. But with the Bank of Japan ( BoJ) back at the discussion table worried about the strong Yen, markets are left to ponder what magical policy rabbit will the BoJ pull out of the hat.
However, after a series of dismal Bond, auction covers foreign bond flows are expected to pick up as the reach for yield intensifies.

The Ringgit

The USDMYR is trading near our weekly top side range as the USD has been stronger than expected and oil prices have remained weaker. However, most of the USD strength was playing out against the Euro and Pound on a combination of ECB easy money policy and increased no Brexit Fears.

But ECB easing is not detrimental for “carry- trade” and reach-for-return opportunities which will come on the back of accommodative central bank policy, which is not necessarily harmful to Asia EM FX.

Ringgit hasn’t really fallen out of favour but instead is falling prey to broader USD rebalancing ahead of two key central bank events this month, ECB and FOMC.

This article was written by Stephen Innes, Managing Partner at Vanguard Markets LLC

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