Global Market Analysis June 29, 2016 – Weekly Outlook
By Jody Samuels, FX Trader’s EDGE
In this week’s video we do a complete Elliott Wave analysis of five markets – S&P, EUR/USD, GBP/USD, OIL and GOLD. We will also show how to trigger trades and get validations at market turning points.
In the past Global Markets Analysis Webinars, we have followed the risk on/off stories by looking at oil, stocks, the EUR/USD (as a proxy for the dollar) and gold. Hence, we have looked at the market correlations to see the intermarket analysis playing out in these four asset classes. This week all markets took their cues from Brexit, and all markets went into risk-off mode simultaneously for 3 days, before risk-on came back into the markets.
US BREXIT IMPACT
The biggest question that has kept investors puzzled is figuring out when the Fed will hike rates. The likely outcome has changed drastically following Brexit, as Fed funds futures are now implying only a 15.6 % probability of a hike by the end of 2016. Pre-Brexit, Fed funds futures were pricing in a 49% chance of a rate hike this year. More astoundingly, the additional uncertainty instigated by Brexit has given a 1.2% chance of a Fed rate cut at its July FOMC meeting while odds for a rate hike are now at near zero for July, September, and November respectively. Some investors are now even projecting the next Fed rate hike by early 2018 – talk about gradual! To provide some insight on the projected changes in monetary policy, Fed officials had originally anticipated four rate hikes in 2016 during their meeting in December of last year, and adjusted this to only two rate hikes at its last meeting in June. Following Brexit, expectations for monetary tightening has ultimately disappeared with 10-year Treasury yields falling to levels not seen since 2012.
EUROPE and UK BREXIT IMPACT
Right after Brexit, all major stock indexes in Europe got crushed by falling more than 7%, while UK government bonds soared given the expectations for loose monetary policy from the Bank of England. 10-year German Bunds, Europe’s safe haven, also saw massive inflows driving yields further into negative and record territory. Central banks around the world were prepared to intervene in the financial markets, as the Bank of England was ready to pump £250b for liquidity purposes. With that said, policymakers are in fact running out of strategies to respond to financial shocks like a Brexit due to the low level of interest rates around the world. On the other hand, UK Prime Minister David Cameron decided to resign leading to speculation that Boris Johnson, the leading Brexit campaigner, will takeover by October.
A Brexit not only has numerous long-term effects for the UK, but also impacts the global economy on a macro scale. The biggest concern for the UK is that it now has to settle upon new trade agreements with countries around the world. For instance, the Comprehensive Economic Trade Agreement discussed with Canada and the EU, as well as the Transatlantic Trade Investment Partnership, a trade agreement between the US and EU, would both exclude the UK. It is now highly likely that the UK will see declines in both business and consumer spending throughout its exiting process, resulting in lower GDP growth for the coming years. Similarly, the increased global economic uncertainty could impact the larger developed nations through the wealth affect seen from possible drawdowns in equity portfolios.
RISK-ON VS. RISK-OFF
How long will the process take for Britain to leave the EU? The Treaty of Lisbon, which is the EU member states constitution signed in 2007, contains a small section called Article 50, which details what happens when a member leaves the group. Since it has never been invoked before, it has caused massive uncertainty because the process can take up to 2 years. Until the UK invokes Article 50, it remains part of the EU and the market will assume a risk-on profile. In fact, in the last 2 days the markets have taken on risk, and we have seen consistent profit-taking in the Dollar, S&P, Oil and Gold.
The GBP/USD and EUR/USD have traded together Post-Brexit, selling off for 3 days and recovering in the last 2 days.
OIL and S&P 500
Oil traded to a low of $45.84, only to recover in 2 days to the $50 level, before giving back some gains. The S&P 500 also traded down to $1,991 post-Brexit, only to regain 61.8% of its losses in the last 2 trading days. You can see how closely the Oil and the S&P are tracking one another.
GOLD VERSUS US DOLLAR
Finally, Gold moved to safe haven status and broke the typical inverse correlation to the Dollar. In this chart, Gold rallied, and the EUR/USD sold off, which is a Dollar rally move. Will the inverse relationship come back to normal? In a risk-on environment, it will. In An uncertain, safe haven, risk-off environment, no it won’t.
Bottom line? Relative stability has returned to the markets temporarily, but perhaps the asset class most affected has been interest rate expectations. Stay tuned for additional Brexit news to drive markets in the coming weeks and months.