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Let’s Make a Deal

Trade Deal – It’s unlikely there will be an exceptional level of excitement in the market as the agreement has been extensively telegraphed, although President Trump will likely herald the deal in with much fanfare. Provided the deal inks a commitment from China to increase agricultural products and outlines a dependable enforcement mechanism, the market will go merrily along the way. Traders are probably not too concerned about a currency pact as China should hold the line on any weakness in the RMB as we roll forward to negotiating Phase Two.
Stephen Innes
Let's Make a Deal

Markets

  • Phase one trade deal is expected to be signed this week but importantly for risk, given the very modest expectations of a breakthrough on some of the more material issues around the truce, the hurdle to disappoint should be relatively high.
  • Treasury Secretary Mnuchin said non of Chain’s commitments in the P1 deal with the United States were not changed during the lengthy translation process.
  • US Payrolls were disappointing but a bit of a shrug, if not a Goldilocks report.
  • With the middle east escalation firmly planted in the rear-view mirror for now and the risk backdrop remaining supportive – namely, improving macro, central bank easing, and receding tail risk around Trade, Brexit, and the Middle East, the path of least resistance remains up.

US Jobs Report

A 145,000 headline jobs print missed the 160,000 expectation with the entirety of the miss coming from manufacturing, not the ideal way to end the decade. Manufacturing weakness is not a shock, and services remain good. So, if construction turns around in the coming months, there is the potential for a modest tailwind to employment.

The detail on the US jobs numbers are mostly weak but probably not enough to impact policy. It could mean a slightly weaker dollar and is a short term positive for Treasuries. It is not a disastrous print, and looking at the six-month moving average of 188k is suggest the report is a bit of a shrug, if not a Goldilocks payrolls.

The S&P 500 within stone’s throw of 3300, a sturdy job report, was vital to investors notching another SPX milestone on their belt. Indeed, with US economic growth mostly dependent on the consumer, a healthy labor market was crucial to any constructive “risk-on” narrative over the short term. It wasn’t to be on Friday, as the data came in more tepid than expected, triggering a moderate stock markets sell-off into the weekend. And with lingering middle east tensions still simmering on the back burner, investors were less inclined to sugar-coat the data and treated it as a “miss is a miss” despite the Goldilocks connotation in the report

Trade war risks have mostly priced out and with frothy equity markets, arguably implying much stronger forward-looking data than the current Value/Growth rotation means. And with growth metrics still flashing yellow as evidenced by the US jobs data released on Friday, investors may start viewing the current level of optimism a bit ripe.

But with the middle east escalation firmly planted in the rear-view mirror for now and the risk backdrop remaining supportive – namely, improving macro, central bank easing, and receding tail risk around Trade, Brexit, and the Middle East.And increase in China easing with the Fed not shifting too far from the rate cut toggle, the path of least resistance should remain up

Oil Markets

  • Some semblance of serenity has returned to the oil markets after a wildly volatile week as prices have fallen back to a pre-political risk level.
  • Without Iran related energy disruption, additional non-OPEC supply will comfortably exceed demand, placing downward pressure on prices.
  • Positive economic data surprises and the hope of a US inventory draw will be called upon to provide critical support this week.
  • Militias have stood down over the week, and oil continues to flow uninterrupted.

Oil continued to move lower into the weekend with middle east risk facing, compounded by swelling US inventories and then unceremoniously thumped by a bearish IEA report. But prices haven’t strayed too far south suggesting markets have seemingly found a tentative geopolitical risk balance. After all, we are only days away from what appeared to be a full-blown US-Iran war and at this early stage of the de-escalation. It’s challenging to have a sanguine view of the middle east, especially given political volatility that continues to permeate in the region. With that said, a period of stability on the major US-Iran escalation fronts should be expected after the US intelligence serviced reportedly intercepted communication from Iran to militia groups, telling them not to attack US targets.

Having spiked and then fallen back to a pre-political risk level all within a matter of days, the crude oil price displayed a semblance of serenity on Friday. All else equal, focus is likely to return to the details of supply/demand, assessing OPEC production, the US shale growth slow-down, non-OPEC supply, and, of course, global economic activity. As such, positive economic data surprises, and the hope of a US inventory draw will be called upon to provide critical support this week given that the P1 “skinny trade deal” is widely expected and probably in the price.

Without Iran related energy disruption, additional non-OPEC supply will comfortably exceed demand, likely placing downward pressure on prices, Although OPEC and friends have protected prices by cutting production. Still, the threat of excess oil supply continued to weigh on market structures compounded by IEA’s executive director Fathi Birol who suggested that demand growth could remain weak compared with historical levels.

And with no obvious attempt by the militias to disrupt oil supplies during the weekend, oil slid at the open as traders continue to de-risk middle east premiums.

Gold markets

  • Gold supported by weaker jobs data as yields ease; looks firm, but upside may be limited this week in the absence of escalating risks and a stable USD.
  • Despite the de-escalation of several key tail risks, I’ve raised my 2020 forecast modestly to $ 1625 /oz from $1600/oz
  • Political risk in the middle east runs thick, as Iran’s Theocracy is back on the defensive as waves of protesters took to the streets after Tehran admitted the Ukraine plane was shot down by a missile to chants of “death to the dictator.”

Gold was on the defensive initially on Friday as the USD held steady trading at week highs throughout Asia and Europe.

However, the December job data showed that the economy added just 145,000 net new jobs. Wage growth also slipped below 3% for the first time since 2018. The sluggish data prints delivered a double-dip bullish delight for gold. Strategic buyers who found some peace of mind after price action held firm above $1540 /oz got rewarded for their uncompromisingly optimistic view as gold markets closed higher for a fifth consecutive week.

The labor market is widely used as a critical barometer figuring out the path of the economy. Although the job market has been excellent in recent months, December’s disappointment was good for gold.

Although the stage is set for signing the P1 trade deal this week and given the very modest expectations of a breakthrough on some of the more material issues around this truce, the hurdle to disappoint should be relatively high. However, if further US-China trade talks prove challenging, gold may prosper.

Middle east political risk remains elevated, and Iran’s Theocracy remains threatened as waves of protesters took to the street overnight, chanting “death to the dictator” after Tehran admitted the Ukraine plane was shot down by a missile. In Iraq, the other smoldering powder keg High-level pro-Iran militia commander in Iraq was killed.

Not all signals are aligned, but gold may also benefit from assorted geopolitical, trade, economic, and financial uncertainty.

The main obstacle for further rallies this week could be the surprisingly resilient USD in G-10. But the Greenback is trading weaker vs. ASEAN FX, particularly in China and India, which have been historically significant buyers of physical. With that said, physical demand remains tepid.

In India, the second-largest importer of gold, demand remains weak, and the $5 discount to loco London prices highlights the lack of interest to chase the price. China import tariffs were approved early in response to the timing of the Chinese New Year holidays. Still, there has been minimal uptake in physical form.

Currency Markets

• Goldilocks payrolls help the bullish AUD trade
• Time for USDJPY to pursue the GPIF lead?
• The Ringgit remains the bullish sleeper for H1 2020. The signing of the trade deal will boost ASEAN exporter and equity/bond inflow sensitive currencies like the Ringgit.
• The KRW has been mostly a supercharged high beta version of the RMB
• The Phase one deal translates into relief for the RMB
• Shine a light on USDCNH and USDKRW. The ‘phase one’ trade agreement lowers the adverse tail risk and should allow investors to refocus on a bottoming of growth, the recovery in the tech sector, and the return of portfolio flows.

Australian Dollar

Goldilocks payrolls help the bullish AUD trade. Outside of the local Aussie perma bears down under, who don’t like buying the AUD trade-weighted. The Aussie is well-placed for a reflation rally, having seen an unusually persistent downtrend. With Global and China economic conditions improving, the Aussie could be ripe to do catch up play to the Yuan.

The Japanese Yen

The USDJPY slipped post US payroll numbers as equities fell in conjunction with US bond yields, which is the ultimate double whammy negative for USDJPY bulls.

But it’s hard to argue that traders are viewing a window of opportunity for USDJPY to soar. Not only does US policy support turn positive during an election year, but Trump could goose the economy (and markets) in the summer by announcing another round of tariff rollbacks.

On the real money side of the equation in Japan. The GPIF is to conclude its five-year asset mix review in February or March, where they are expected to announce a higher benchmark allocation for foreign bonds. If other pension funds follow suit, which is typical for Japanese funds to pursue the GPIF lead, that could add up to more than USD 100 billion of outflows with a good chunk earmarked for the US Treasury.

The Euro

The Euro is under middle pressure this morning as we begin this week with the EU tariff public comment deadline on Monday. With US-China tensions having calmed (Phase 1 signing expected Wednesday), EU agricultural products are likely to be the next target for the USTR.

The Malaysia Ringgit

The Ringgit remains the bullish sleeper for H1 2020. The signing of the trade deal will boost ASEAN exporter and equity/bond inflow sensitive currencies like the Ringgit. Keeping in mind the Ringgit was undervalued relative to regional peers, so we are starting to see the catch up unfold even more so as the Yuan veers on a bullish tack ahead of the P1 signing. Ringgit traders are in a riskier mood as the Yuan, Asia key bellwether is trading on an even keel, which bodes well for ASEAN currencies in general to start 2020.

Asia exporter currencies, and in particularly high yielders, have been in massive demand. Inflows have notably increased, and the Ringgit has also reaped the rewards. With low currency volatility, investors are increasing yield-seeking appetite where “carry is king.” And the US payrolls report could boost demand for higher-yielding assets as the prospects of a Fed rate cut slightly increase

Foreign investors who are in yield-seeking mode could increase their duration as the market still has yet to the price in any rate cuts. Don’t be surprised if the market starts to factor in one and possibly two BNM rate cuts if inflation remains tepid, and even more so if the US Federal Reserve Board introduces average inflation targeting. And while foreign bond holdings have built back in recent months, the better FX outlook should offer a significant cushion. Also, the US Treasury focus could keep BNM intervention at bay. And at the same time, MYR will benefit as Malaysia has been the primary beneficiary of supply chain relocation due to the US-China trade frictions.

The Korean Won

The KRW has been mostly a supercharged high beta version of the RMB in response to the shifting trade narrative. With the ‘Phase One’ trade deal reached, the focus will shift back to the improving underlying fundamentals and tech cycle recovery. This should lead to an improvement in trade surplus and the uptick in tech sectors and the return of equity inflows.

The Yuan

The Phase one deal translates into relief for the RMB and ensures a more stable Yuan this year, which is excellent for Asia risk, but there will be a downside skew towards 6.80 if phase 2 talks progress well.The P1 deal suggests the RMB will not be a source of EMFX weakness this year and should provide a boost to global equity markets.

This article was written by Stephen Innes, Asia Pacific Market Strategist at AxiTrader

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