Rates Down, but Not Out
The various FED speakers have come out and reiterated that all future meetings are live (rate hikes possible), but that any hike will be data-dependent. The FED has to prepare the market for any rate hike well in advance in order not to spook it, but the chances of hiking in March are only 22% according the CME tool. This less-than-hawkish stance caused Treasury yields to make multi-week lows this week, even as the equity markets danced around record highs. This means that safe-haven (risk-off) assets were being bought at the same time as equity (risk -on) assets. If/when the equity market corrects, there is now a danger that both stocks and bonds drop simultaneously, thereby, leaving capitol with nowhere to hide.
There are several reasons for the situation the market finds itself in. In the Eurozone, investors stopped fleeing French sovereign bonds in response to Francois Bayrou, a potential centrist contender in the French presidential race, throwing his support behind Emmanuel Macron and thus allaying the market’s fear about a Eurozone breakup. Back in the U.S., the risk of inflationary pressure from tax cuts or infrastructure spending continues to wane; the border adjustment tax (BAT), which is necessary if the corporate tax-rate is to fall below 30% (according to JPMorgan), is running into a lot of business lobby opposition in the Senate; and an infrastructure bill does not appear to be much of a priority, the word from the White House this week was that it is more likely to happen in 2018.
It seems that the Trump ‘reflation-trade’ is starting to cool down, but the business cycle may continue to improve since it was doing so anyway before the election. Next week, we will see the Chinese PMI data for February as well as ISM Manufacturing and Services Indices in the U.S., and the FED will also have the February jobs report (March 10) in hand going into its March 15th meeting. Even thought the FED likes to talk about rate hikes, the fact remains that without a blow-out jobs report, March is dead. Having said that, the bias in rates continues to point upwards evidenced by the 50% probability of a hike in May, and a 67% probability in June.
Gold
The ‘drivers of gold’, rates, the dollar, the USD/JPY ratio, and inflation have been in a corrective mode for the last few weeks and this has allowed gold to push higher. As we stated above, the long-term bias in rates continues to the up-side and, therefore, we see the rally in gold as having limited upside from here. The chart below, high-lights the fact that all three rate curves, along with the dollar, are at their 38% Fibonacci retrace lines which should act as support. This should limit gold’s upside.
The chart below, demonstrates how inflation is not a threat and that gold has moved up recently even though inflation is sharply lower. As we have maintained for months now, inflation is NOT in danger of running out of control, especially since the FED has a reservoir of rate-hikes in which to drown any inflation above 2%.
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The commitments of futures traders (chart below) show that the large speculators (managed money) increased their long position from 67% to 70%, while the commercial traders (bullion banks and producers) increased their short position from 69 % to 70%. These readings are neutral.
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Equities
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The Rydex Bear:Bull asset allocation ratio continues close to historical lows. Low ratios correlate with market tops, but the 36-week moving average (red line on the chart below) has yet to turn up, which could mean that the rally has further to go.
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The put:call ratio has turned back down, which demonstrates that a lower spike may be developing along with a higher S&P 500 (green arrows on the chart below).
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Source: Nicholas Gomez
