Market Outlook | November 30, 2015

“There cannot be a crisis today; my schedule is already full.” (Henry Kissinger)

Themes Revisited

Three inter-connected themes from last year (2014) are bursting at the forefront of market discussions: Anguish in Emerging markets, the absolute demise of the commodity prices, and the strengthening of the dollar. These trends highlight the macro set-up. Amazingly, to understand some of the foreign policy tensions today, one can start with EM economic weakness. Perhaps, that was the critical prelude that’s driving the current market and foreign policy behaviors. The frailty in EM and commodity prices reflects the overall slowing global growth that is turning ugly and sour these days.

In hindsight, 2011 marked a critical period. In the spring of that year, the US dollar bottomed and in that same autumn Gold peaked. Since then, that trend has remained in emphatically in place. During that period, EM demand and growth suffered and that toll is being reflected brightly today.

Emerging Mess

If there was any doubt about the slowing global growth climate, last week reaffirmed a few reminders from all directions. It's a bit ironic that around key economic circles the discussion is around QE or "better than expected numbers" and a time frame for hiking interest rates. Yet, for real economic operators the concerns deal with a string of chaotic events that re-confirm the ongoing slowdown.

Across various continents, there is an edginess beyond what’s illustrated in US volatility (VIX) measures. The major scandal in Brazil may have put a nail in the coffin for an already struggling market. Further angst is felt in a country that witnessed decent growth during the commodity boom:

“Until now, the Petrobras scandal has been mostly confined to the murky underworld of the oil and gas and construction industries, where former executives are alleged to have conspired with construction bosses, black market money dealers and politicians to extract an estimated R$6bn through fraudulent contracts.” (Financial Times, November 27, 2015)

This news dampens an already muted sentiment, but still illustrates the sour environment in EM.

Then, of course, there is the ever so escalating Russia-Turkey rift. Tons of economic implications appear as tension mounts and counter-punches are traded by leaders. The Syrian massive crisis that’s producing a proxy-war and political posturing has been much ignored, at least by equity market day-to-day action. Yet, one does not need the Syrian crisis to analyze the demise of Russian and Turkish economies at the start of 2015. In fact here is an article regarding the Turkish economy from this spring:

“Four years ago, Turkey grew at a rate of 8.8pc but in 2012 this dropped to 2.1pc and 4.1pc in 2013. The forecast for 2015 and 2016 is GDP growth of 3.5pc and 3.7pc.” (The Telegraph, May 30, 2015)

No surprise that EM nations are feeling like they have less to lose, at least leaders are fearless than they would have been during rosy periods. Grim periods have been felt and perhaps lead to harsh investor realization.
In this headline shuffle, the China slowdown should not be dismissed considering that was the catalyst of the summer sell-off. Interestingly, last week produced another notable sell-off, which was triggered by Chinese regulators' action against financial firms:

"The Shanghai Composite ‎closed 199 points, or 5.48 percent, lower; the Shenzhen Composite closed 6.1 percent lower, the Chinext was down 6.1 percent, and the CSI300 Index saw a decline of 5.38 percent.‎" (CNBC , November 26, 2015)

At the same time, Saudi Arabia and other oil producing nations are nervous with plunging oil prices. In this inter-connected world, slowing China also means slowing demand for Crude and that’s raising a few blood pressures, as well. Suspense is surely escalating and risk-reward set-ups are rearranging, as well.

The Convenient Narrative

With the last month of 2015 approaching, major media and known pundits are debating the rate hike possibilities by the Fed. Central bankers again are overly idolized. The endless stimulus efforts have led to low rates which is numbing by now. Surely, the conductors of the “market orchestra” continue to shape sentiment.Mystery aside, this narrative of low rates and higher assets in developed markets is tiring. Love it or hate it, this narrative has rewarded those parking capital in “safe assets,” as US based investments gain strength. The intellectual justification of elevated asset prices is (and has been) part of the Fed’s narrative policy. Thus, the Fed reacts to reality, but their reality is political. By placing a verdict on current growth, the posturing and messaging from Central Banks again fails to tell the full story. Slowing corporate earnings, unclear fundamentals, and mixed economic data do not tell a convincing story. There is no magical answer. Yet, market participants are yielding to the Fed for guidance, even though a clear-cut answer is not available to anyone.

Article Quotes

“While ECB policy makers have so far pledged to buy at least 1.1 trillion euros of assets, they are still seeking a silver bullet to push price growth toward the central bank’s target of just under 2 percent. Economists surveyed by Bloomberg predict that a flash estimate published on Dec. 2 will show inflation rose 0.3 percent in November. Negative-yielding securities now total $2.2 trillion, or around one-third of the Bloomberg Eurozone Sovereign Bond Index. That compares with $1.38 trillion before Draghi’s Oct. 22 pledge. The deposit rate has become a focal point for investors after Draghi said that day that officials discussed a reduction. ECB restrictions currently prevent the central bank from buying any security yielding below the minus 0.2 percent level so a change to the rate would bolster the number of bonds eligible for purchase. A 15 basis-point cut is more than 90 percent priced in, according to futures data compiled by Bloomberg. All but one of 44 economists in a Bloomberg survey forecast a reduction, with the median prediction at minus 0.3 percent. Banks including Commerzbank AG and Citigroup Inc., are also calling for the for the ECB to extend or expand its bond-buying plan next week.” (Bloomberg, November 28, 2015)

“There are plenty of oil bulls who are keen to latch on to the notion that Saudi Arabia might change its mind, as the rising price this week shows. However, it might not matter in any case. As HSBC senior economic adviser Stephen King tells Bloomberg, there’s a demand story here too. ‘If you look at the path of oil prices, the surprises to oil prices over the last 15-20 years, they closely correlate to the waxing and waning of the Chinese economy. The China slowdown is probably the biggest single influence that is depressing oil and other commodity prices.’ King makes the other point – which is frequently forgotten – that Opec doesn’t have the sort of deity-like power over the oil price that many believe. Output was cut during the price slump ‘in the mid-to-late 1980s and prices didn’t go up.’ China’s economy might be turning around now. But the sort of demand surge that we saw in the decade leading up to the financial crisis is unlikely to be repeated. In short, I’m not betting on oil prices collapsing to $20 a barrel – it’s possible, but it’s also hardly a contrarian call. However, it’s hard to see prices rocketing back to that $60-$80 ‘comfort zone’ in the near future either.” (Moneyweek, November 27, 2015)

Key Levels: (Prices as of Close: November 27, 2015)

S&P 500 Index [2,089.17] – Breaking above 2,100 proved to be difficult all year for the index. In fact in August during the summer, sell-offs and sellers' pressure forced a move below 2,050, which is critical to point out.

Crude (Spot) [$41.71] – Struggling to climb above the current range, which is around $40. Recent trading behavior suggests that surpassing $50 is a daunting task, unless there is a massive supply unrest.

Gold [$1,081.50] – Making annual and multi-year lows. Since the peak in 2011, the current move is an ongoing decline, confirming the commodity bearish-cycle. Despite all the chatter, Gold is highly correlated to commodities rather than as an alternative “currency.”

DXY – US Dollar Index [100.02] – An exclamation point to the dollar's recent strength. Crumbling EM currencies and declining commodities bode well for the US dollar. Since the bottom of May 2011, the dollar strength reveals the global demand for a “safe” currency.

US 10 Year Treasury Yields [2.22%] – The 200 day moving average is 2.15%, which tells the story of recent weeks. Yields are mostly neutral despite all of the rate hike chatter and anticipation.


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