Trader’s Thoughts – growth fears persist as markets position for Fed

2018 reaches a climax this week

It’s effectively the last serious trading week of the year, and the economic calendar reflects that. Indeed, there’ll be a handful of days between Christmas and New Years to keep across, but with little news and thin trade, it’s tough to imagine anything coming out of them. The markets are still ailing, with the bears firmly in control of price action. There’s so many risk-events coming up this week, traders with a bearish bias are surely salivating. They did well to knock-off US equities in the final round of last week: the S&P 500’s 1.9 per cent loss on Friday ensured another down-week for Wall Street. How this year is remembered and how next year will begin will in no small way be revealed in the next 5 days: if you’re a financial markets buff, it’s exciting stuff.

Economic data

Concerns about future global economic growth tightened its grip on market participants last week. A slew of fundamental data was released across numerous geographies, and most of it was quite underwhelming. European PMIs undershot expectations, probably attributable in a big way to the impact of being caught in the cross hairs of the US-China trade war. US Retail Sales data printed very slightly above expectations, to the relief of many, showing that the almighty US consumer is holding up well – at least for the time being. But it was a very soft set of Chinese numbers that had the pessimists tattling: the spate of economic indicators released out of China on Friday afternoon proved once more it’s an economy that is slowing down – and hardly in a negligible way.

Recession chatter

Market commentary is continually focused on what prospect exists of a looming US recession. Financial markets, as distorted as they have become, aren’t necessarily possess strong predictive of economic slow-downs. Nevertheless, your pundits, punters and talking heads have taken a significant preoccupation with whether 2019 will contain a global recession. The signs are there, at least in some intuitive way. A google trends search on the term recession has spiked to its highest point 5 years. Bond markets are still flashing amber signals: the yield curve is inverting, and US break evens are predicting lower inflation. Equities are still moving into correction mode, demonstrating early signs of a possible bear market. Credit spreads are trending wider, especially in junk bonds, as traders fret about the US corporate debt load. And commodities prices are falling overall, with even oil still suffering, on the belief that we are entering a period of lower global demand.

Dense data-week

That explains the context as to why this week is important. Any individual trader could well point to a spot on the calendar and find a highly relevant risk event to whichever market or asset class that takes their fancy. There’s the BOJ, the BOE, the final US GDP number, US Core Durable Goods orders, UK and Canadian CPI, Aussie unemployment, and a possible US government shut down. This being said: everyone in the market should be centring their week around what comes out of the US Federal Reserve meeting on Thursday morning (AEDT). The Fed will more than likely hike rates at this week’s meeting – that’s being priced-in at a 70 per cent probability. But (of course) markets are forward looking, meaning that traders will be on edge to scour every bit of information to infer what the Fed may do with interest rates in the year ahead.

US Fed-watch

Life will be made a heck of a lot easier for this meeting: we will get the Fed’s dot plots, along with their standard statements and commentaries. The Fed is “data” dependant now, markets are being told – as dovish a statement that any central banker, who wishes to maintain some semblance of optimism, can deliver to the market. Reading between the lines, the expectation is that the dot plots are going to show a Fed that is downgrading its rate-hike forecasts. The last iteration of the dot plots indicated the belief rates would be hiked 3 times next year. Markets are pricing in a measly 16 points of hikes, creating the possibility of heightened volatility, right across asset classes, if a rapid re-pricing of risk is required in response to the Fed’s latest round of projections.

The Australian economy

It’s only relevant to us in our corner of the world, however the major economic event in Australia this week may prove to be the minutes released by our central bank on Tuesday. Caught-up in the burgeoning hysteria and speculation of a looming global economic slow-down, market participants are increasing their bets that the Australian economy will be in for a challenging 2019 itself. For the first-time-in-some-time – and this came in response to the very underwhelming GDP figures released a fortnight ago – interest rate markets are beginning to price in interest rate cuts from the RBA next year. This Tuesday’s RBA Minutes release is unlikely to shift the dial significantly on this front; but once more, moving into 2019, traders are looking for insights into hot topics like softer consumption, falling house prices, a slowing Chinese economy, and tighter global financial conditions to form a concept of what to expect from the Australian economy in the new year.

ASX in the day ahead

There are signs a general risk aversion is clouding the ASX to begin the week. SPI futures are pricing a 32-point drop for the Australian market this morning, which if realized will take ASX 200 index through last Tuesday’s closing price at 5576. There has been the tendency for the market to overshoot what’s been implied on the futures contract of late, as fear and volatility galvanizes the sellers in the market. This being so, a new test of last week’s low of 5549 could emerge today, opening-up the possibility for the market to register a fresh two-year low. On balance, the day ahead looks as though it may belong to the bears, with perhaps the best way to judge the session’s trade by assessing the conviction behind the selling. Although it appears the less likely outcome, a bounce today and hold above 5600 would signify demonstrable resilience in the market.