(MENAFN- DailyFX) Inflation, Fed Rate, S&P 500, Recession, EURUSD and Yield Curve Talking Points:

  • The trade outlook: S&P 500 bearish below 4,075; USDJPY bearish below 134.00; EURUSD bullish above 1.0100
  • Although the heavy fundamental themes of runaway inflation, tight monetary policy and impending recession remain; financial benchmarks held steady last week
  • Ahead, win; July PMI and BOJ and ECB rate decisions present serious event risk; but will the market make a critical move ahead of the July 27 FOMC announcement?

{{GUIDE| BUILDING_CONFIDENCE_IN_TRADING}}The week before ‘The week’

There was high volatility in different corners of the financial system last week – such as the biggest bearish gap for the Dow on Thursday in years – but benchmarks would not fundamentally move from their course. For the S&P 500 representative of the risk, the general trend is bearish; but the last five weeks are more accurately defined as congestion. I will note that this is a particularly tight trading pattern and that the net speculative positioning of futures suggests that there is growing bearish concern for futures, but the masses are looking for a clear catalyst before they decide to go back or throw in the towel. The greenback as a carry benefactor and often safe haven was in a similar position. Its general trend is bullish, having pushed the trade-weighted DXY index to its highest level in two decades, but there has been no measurable progress in the past week. The week ahead has some notable catalysts and historical context for those hoping for volatility, but there is one contrasting influence that can work against progress: what lies ahead next week. The leading event risk for the week of July 25 is the FOMC rate decision (July 27); the IMF’s WEO Economic Update (July 26) and official third-quarter GDP figures for the United States and the Eurozone (July 28 and 29).

S&P 500 Chart with Net Spec Futures Positioning and 5-Week Historical Range (Weekly)

Chart created on the Tradingview platform

Although our attention is drawn a little further into the future, this does not mean that we can comfortably resort to range trading in the meantime. There are plenty of risks of events scheduled throughout this week that can tip the scales of sentiment by initiating systemic themes. However, removing timed event risk from the equation for momentum; there are also seasonal considerations that could create enough speculative traction to force a provocative technical move. In general, July shows average gains for risk assets as well as a modest recovery in activity from the previous month, but there is a more abrupt move at a more granular level. Historically, the 29th week of the year – which we are entering – sees a significant increase in the VIX compared to the previous four weeks. This is likely the historical average of passing holiday conditions, the start of earnings, and the general timing of Fed decisions. Is there anything else at work that makes this norm even more resilient?

Chart of VIX overlaid with the historical average level for each week of the calendar year

Graphic created by John Kicklighter

The fundamental tempo of the coming week

While the broader fundamental themes are systemic and geared towards the most important releases in the coming week, there is nonetheless a significant series of event risks scheduled throughout the next five-day trading period. There are a host of significant, localized events to be released (including inflation readings in New Zealand, Canada, the UK and Japan); but I watch for themes that can tap into investors’ deeper concerns. The stretch between Monday and Wednesday carries a thread of interest around US earnings. On Monday, we’ll complete bank performance with Bank of America and Goldman Sachs releasing their reports ahead of the open. These macro-concentrations will be significantly different, with BAC focusing on consumer lending and GS deriving greater revenue from trading activities. Tuesday hosts a series of corporate reports, but FAANG member Netflix’s first reporter will rely on the former industry leader and now lagging behind. Wednesday will diversify the fundamental mix with CSX reflecting growth forecasts and supply chains, Tesla talking to speculative favorites and Alcoa a champion of commodity inflation. On Thursday, the theme shifts to monetary policy with the world’s most important doves – the European Central Bank (ECB) and the Bank of Japan (BOJ) – due to report. Friday completes us with a growth (or “recession” if the data is troubled) update via July PMI numbers for the world’s largest developed players.

Global risk calendar of major macroeconomic events for the next 48 hours

Calendar created by John Kicklighter

Wading into deeper waters is our best chance of seeing sharp moves in volatility catalyze the serious trends we really expect. Although there is serious focus on whether or not inflation is close to peaking as well as the intentions of the major central banks – especially as there is a troubling bifurcation between the biggest players – all streams seem to be finally finding their way back to the threat of economic recession. In terms of search, people all over the world show their interest/fears in their Google search habits. The likelihood of a significant economic contraction has increased for the US (2-10 gap), China (official GDP) and Europe (supranational groups forecast) which is a sufficiently large representation of the globe. If those fears spike this week for any reason, planned or unplanned, I would view that as a risk to overall stability.

Google search levels for ‘Recession’, ‘Bear Market’, ‘Rate Hikes’ and ‘Earnings’

Graph from Google Trends, trends.google.com/trends

Markets to watch: focus on the euro and the yen

From a fundamental and timed event risk perspective, there are a number of hot spots for the markets over the coming week. There are inflation charges for the pound, yen, loonie, and kiwi dollars; but significant trends are highly unlikely from these data. Overall influence looks more drinkable between inflation readings, earnings and PMI numbers on Friday; which could make gold interesting as anti-fiat tests the lower range of a two-year range around 1,700/1,680. Yet, from a macro perspective, Thursday’s rate decision of the ECB is my main economic lightning rod of the week. The recalcitrant bearish central bank should eventually raise its key rate by 25 basis points (bp), but that does not put it in positive territory. Nevertheless, it can put an end to a yield differential that continues to widen; and the EURUSD’s refusal to break below parity (1.0000) seems more than suspicious.

Chart of EURUSD with 20-day SMA with “differential” between Spot-20SMA (daily)

Chart created on the Tradingview platform

For the regular observer of monetary policy; the Bank of Japan monetary policy event would appear to be an abandonment. However, I would not be so quick to dismiss the political decision of this group. As the BOJ Governor has worked to reinforce his commitment to extreme monetary easing in charge of economic growth, the financial costs of this policy are becoming increasingly onerous. One of the biggest issues to address is the painful exchange rate that has pushed the Japanese yen to multi-decade lows. Not so long ago, the US Treasury Secretary weighed in on the yen, saying the currency did not reflect fundamentals and intervention should only be allowed in extreme circumstances. The only period comparable to the past four months is the USDJPY surge post-Fukushima. Is it eligible?

USDJPY chart with 50-week SMA and “differential” between Spot-50SMA (weekly)

Chart created on the Tradingview platform

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