Week Ahead: Geopolitics To Roil Markets Again? Oil Lower? USD Higher?
Investing.com | May 27, 2018 08:20AM ET
- Over the course of the week stocks advanced despite uncertain geopolitical outcomes
- Energy sector weighs on otherwise bullish market as trade week closes
- Oil plunges the most in 11 months at week's end on reports OPEC and Russia will make up Iran, Venezuela shortfalls
- Gradual path to higher interest rates means different things to different traders but stocks keep moving higher h2 Weak Gains, Market Worries/h2
- US markets closed for Memorial Day
- UK markets closed for Spring Bank holiday
Though the S&P 500, Dow and NASDAQ each saw gains over the previous week, albeit via relatively minor increments, up 0.31, 0.20 and a comparatively whopping 1.1 percent respectively, it was, overall, yet another week in which geopolitics, rates, and energy rattled markets. Indeed, all of the US major indices closed lower on Friday save for the NASDAQ which finished the week up a paltry 0.13%.
Will traders decide they've had enough and this coming week seek friendlier, more stable—if not necessarily more predictable—safer haven assets? We think not.
h2 Sector Rotation Leadership On Ongoing Jitters/h2Though the SPX advanced for the week, sector leadership was a critical tell that investors were not sleeping well at night: Utilities, a defensive sector, were up the most, gaining +1.28 percent; Energy shares plunged, falling -4.52 percent after Russia's oil minister Alexander Novak said, on Thursday, he would discuss with Saudi Arabia and other OPEC-Non-OPEC counterparts a 'gradual output recovery' at this coming month's meeting in Vienna. OPEC is reportedly considering lifting oil production by as much as 1 million barrels a day to compensate for shortfalls from Iran and Venezuela.
Materials, -1.42 percent, were the second worst performing sector, reflecting concerns over the impact of tariffs on the industry. The third biggest weekly loser were Financials (-0.36 percent), which had been dropping since Wednesday's Fed minutes release, when the 10-year Treasury yield started falling below the key 3 percent level. While geopolitics suddenly made the current yield appetizing for haven seekers, it also brought equity investors who were holding out for higher rates back down to earth.
The Russell 2000 was flat for the week. As the index that relies least on exports, ever since the trade war rhetoric heated up, small caps have been siphoning demand away from larger caps. The Russell's underperformance may indicate that investors are now growing less concerned about the prospects of a trade war.
Perhaps they think all the saber rattling will not lead to anything concrete. It's also possible they now believe that even if the spat escalates it won't have a lasting impact on markets.
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Technically, The S&P 500 and Dow broke out of their consolidation patterns since reaching records in late January (March for the NASDAQ Composite). The Russell 2000 already posted a new record last week.
As well, the NASDAQ Composite may have provided a small, upside breakout on Friday for a continuation pennant pattern. Should the breakout be more meaningful, it would signal a challenge to the March record.
h2 4 Key Factors Now Driving Markets/h2Of course, we have been bearish as of late, but we also recognize that because of current fundamentals and technicals, it's also clear the market has changed. And at least some of these changes, we believe, will continue moving equities. It's our view that stocks bounced from the previous week's decline, driven by the following 4 key factors:
1. The volatile, push-and-pull of trade negotiation progress immediately followed by set-backs between the world's two largest economies has roiled the market in ways not visible throughout 2017.
2. Diplomatic fallout between the US and North Korea, after the bromance between the countries' two leaders, US President Donald Trump and North Korea's Supreme Leader Kim Jong Un suddenly soured, has pressured markets. However, over the weekend, a surprise visit to South Korea by North Korea's leader and some positive statements by Trump have stoked sentiment that the June 12 summit between Washington and Pyongyang could still get back on track.
We believe US trade negotiations with China are linked to the progress (or lack thereof) with North Korea on the Singapore-based summit. As North Korea's single biggest trading partner, China 'holds all the cards' for a successful denuclearization process. Note that when things started unraveling between Kim Jong Un and Trump, there was concurrently trade negotiation fallout between the US and China. This appears to be a cycle of leverage: while China exploits their influence over Kim Jong Un to move trade policy in their favor, the US then plays its hand as needed so China will coax Kim back to the table.
3. Last week's release of the FOMC minutes revealed that while the path of gradually rising rates remains intact, the Fed's language signaled there 'is no rush to raise rates.' That effectively dispelled, for now, speculation of a fourth rate hike this year.
4. Oil wreaked havoc on stock markets as the week ended, as the outlook for continued production cuts appeared to fade. Traders realized that their recent enthusiasm which bid up oil, reflecting an outlook for diminishing supply, might have been misplaced. As the week closed they rushed to rebalance the commodity's prices.This factor on its own was almost solely responsible for dampening Friday's equity market performance, also weighing on what could otherwise have been a more upbeat weekly result.
Bottom Line: no matter the outcome of shifting geopolitics, investors continue to disregard political developments, in much the same way they've been doing since the mid-2016 Brexit vote, when—even after the unexpected result of the referendum vote—the sky didn't fall as everyone had predicted. Technically, consolidations have been broken to the upside, suggesting the overall psychology has shifted from indecision to a decision to take stock prices higher.
h2 The Week Ahead/h2All times listed are EDT
h3 Monday/h319:30: Japan – Unemployment (April): rate forecast to stay at 2.5%.
10:00: US – Consumer Confidence (May): previous reading 128.7.
While 10-year yields remain in an uptrend since September 2017, they raised a red flag when they penetrated the May low, after falling from the 3.00 percent psychological level.
Interestingly, despite financial shares taking a hit on the Fed's dovish language, the dollar rose for two of the three trading days since the minutes were released, advancing 0.7 percent. It's almost as if there have been divergent outlooks between stock and currency traders.
Perhaps stock traders expected a more hawkish Fed, and the possibility of a fourth hike this year, while currency traders weren't even counting on three hikes? After the Fed confirmed the path to gradual interest rates remains intact, understood to be three hikes this year, traders bid up the dollar, suggesting the expected rate hikes were not yet priced in.
h3 Wednesday/h31:00: Japan – Consumer Confidence (April): forecast to rise to 43.8 from 43.6.
3:55: Germany – Unemployment (May): forecast to stay at 5.3%.
5:00: Eurozone – Business Confidence (May): expected to fall to 1.2 from 1.3.
8:00: Germany – Inflation (May, preliminary): expected to fall to 1.5% from 1.6% YoY.
8:15: US – ADP Employment Report (May): 190K jobs expected to have been created, down from 204K last month.
8:30: US – GDP (Q1, 2nd estimate): QoQ growth expected to be 2.4% from 2.9%.
The price of gold has taken a hit, weighed down by the stronger dollar. A return-move retested a completed double-top pattern, compounded by a crossing below the 200 DMA, and both pattern and moving average confirmed resistance.
10:00: Canada – BoC Decision: no change in policy expected, rates to be left at 1.25%.
21:00: China – Manufacturing and Non-Manufacturing PMIs (May): forecast to fall to 51.3 from 51.4 for manufacturing and to 54.7 from 54.8 for non-manufacturing.
h3 Thursday/h35:00: Eurozone – Unemployment (April), Inflation (May, flash): unemployment to remain at 8.5%, while inflation rises to 1.6% from 1.2% YoY for the headline number, and to 0.9% from 0.7% YoY for the core figure.
8:30: Canada – GDP (Q1): QoQ rate to fall to 0.2% from 0.4%, and rise to 2% from 1.7% for the annualized figure.
8:30: US – Personal Spending (April), Initial Jobless Claims (w/e 26 May): spending expected to rise 0.3% MoM from 0.4% in March. Claims expected to fall to 227K from 234K.
9:45: US – Chicago PMI (May): expected to rise to 58 from 57.6.
10:00: US – Pending Home Sales (April): expected to rise 0.4% MoM but fall 2.1% YoY.
11:00: US – EIA Crude Oil Inventories (w/e 25 May): stockpiles forecast to rise by 920,000 barrels, from a 5.7 million increase a week earlier.
While oil took a hit on reports that OPEC and Russia would compensate for any supply disruptions from Iranian sanctions and Venezuelan economic implosion, a strong dollar also weighed on the price of the commodity.
Technically, while oil slid lower by $3.20, or 4.5 percent, its biggest decline in 11 months, it stopped above an ascending triangle. Since oil didn't reach its $75 implied target, falling more than $2 short, this may be nothing more than a return move to retest the pattern. Therefore, this could be a buying opportunity, with an exceptionally attractive risk-reward ratio.
21:45: China – Caixin Manufacturing PMI (May): forecast to fall to 50.9 from 51.1.
h3 Friday/h34:30: UK – Manufacturing PMI (May): expected to rise to 54.8 from 53.9.
8:30: US – Nonfarm Payrolls (May): payrolls to rise to 185K from 164K, and the unemployment rate to hold at 3.9%. Average hourly earnings expected to rise 0.1%.
10:00: US – ISM Manufacturing PMI (May): forecast to rise to 57.7 from 57.3.
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