The Overnight Report: All Eyes On Europe

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By Greg Peel

The Dow closed up 13 points while the S&P was flat at 1920 and the Nasdaq was also flat.

Sogginess persisted on Bridge Street yesterday as any reaction to early season earnings reports is overshadowed by global considerations and geopolitical uncertainty. On Monday the ASX200 was trading above 5600 but yesterday it breached 5500 briefly, before trundling along the bottom ahead of a slight rebound to a 5512 close.

The 5500 level was a technical brick wall that needed to be penetrated on the way up, to allow the rally to new post-GFC highs above 5600, so by default it now becomes the technical concrete floor that should provide support. A clear breach of 5500 would, however, likely result in accelerated selling.

To some extent it feels like this possibility is out of the markets’ hands. Not only have the sanctions imposed on Russia to date impacted on German and other businesses, independently the European economy is struggling with disinflation and a slowing in what had appeared to be growth recovery. Last night Italy’s June quarter GDP came in at 0.2% contraction quarter on quarter against a consensus forecast of 0.1% expansion. Given Italy’s March quarter saw 0.1% contraction, Italy is “officially” in recession.

Italy’s stock market lost 2.7% last night but all the attention is focused on the German market. Investors fear sanctions against Russia can only be stepped up from here given Putin’s sheer defiance. He has moved more troops to the Ukraine border when asked to withdraw troops and has told his government to devise means of sanction retaliation against the West.

The German DAX index is now down 9% from its all-time high set only last month. The critical level for the DAX is considered to be 9000, below which a technical abyss awaits. Last night the index traded as low as 9030 before some buying saved the day, pushing up to a 9130 close. It is difficult to see how fortunes might suddenly swing back to the positive for Germany, and for the other large European economies (Italy’s is third largest after France), unless there is a resolution with regard Ukraine or unless Mario Draghi can pull a rabbit out of his hat.

To that end, the ECB holds a policy meeting tonight.

The correction on Wall Street to date is only 4%. This is consistent with prior widespread opinion that while a correction has indeed been long overdue, 3-5% would probably be the limit given the level of pent up buying demand. But talk on the Street now is that if the DAX breaks 9000, the correction on Wall Street will be in the double digits.

So this is the backdrop we have as the local market looks towards a result season which still only shifts into second gear next week. The following two weeks will be top gear stuff. The US season is all but over with a score card of 10% earnings and 5% revenue growth year on year. A solid score card in anyone’s terms, notwithstanding buybacks. Rate rise talk, nevertheless, has now taken a back seat. Last night the Dow opened down 57 points as the DAX was tanking but rebounded to be up 61 points when the DAX bounced off its low. Markets then steadied to a flat close with tonight’s ECB meeting firmly in the sights.

When the New York session opened for the gold market last night, the DAX was heading south in a hurry. Gold thus shot up US$20 in a blink, before steadying throughout the rest of the day to be up US$17.30 at US$1305.90/oz. While gold has proven an unreliable safe haven against geopolitical risk in more recent times, technically it could run up a lot higher from here. Not so the US ten-year bond yield – the other safe haven benchmark. It fell only another one basis point last night to 2.47%

The year’s low for the ten-year is 2.44%, and if we remove the shroud of geopolitical influence we know that bond yields are much more vulnerable to upside than downside now the Fed rate rise debate has heated up. There are presumably few investors thus looking to shift out of stocks and into bonds at this point, as they could be caught in a very sharp bond sell-off from these levels. Perhaps that’s why gold has suddenly reawakened.

Copper was the one metal that seemed to cop the brunt of heightened tensions last night, falling through the US$7000/t psychological level to mark an ultimate 1.2% fall. The other metals were less volatile.

After all the volatility experienced this year in the iron ore price, we seem to have settled at a level for now. When the last iron ore scare occurred in 2012 the metal plunged into the eighties but very quickly rebounded back to 120. This time we’ve seen iron ore in the eighties again but we have settled back only to around the 95 mark. Last night saw a rise of US40c to US$95.90/t. One might argue the difference between the 2012 and 2014 prices represents the increase in Pilbara supply in the interim.

Oil remains the head scratcher. If the world is really that concerned about a Russian invasion of the Ukraine, subsequent sanctions and retaliation and impact on global energy supply, then oil really should be rallying, not falling, points out many a commentator. Alternatively, we could look to last night’s Italian GDP result in suggesting an apparently slowing global economy, in which the US looks healthy but Europe looks sick, China fair to muddling, and Japan frustratingly hamstrung, is what is keeping the buyers away from energy markets. Last night Brent crude fell US18c to US$104.63/bbl and West Texas fell US77c to US$96.86/bbl.

The spike in gold occurred at midday London time/8am NY time and then at 4pm London time/midday NY time the same spike occurred in the Aussie. The Aussie began to rise as gold rose and after spiking, settled back a bit to be up half a cent over 24 hours to US$93.55. The US dollar index is down 0.1% to 81.41 in the same time frame. Have we hung the “safe haven” shingle out?

The SPI Overnight fell 8 points.

Its jobs day in Australia today, which might have an effect on the Aussie, but tonight brings the critical ECB meeting, and the Bank of England will meet around the same time.

On the local stock front, earnings reports are due today from Aquarius Platinum ((AQP)), BWP Trust ((BWP)), Flexigroup ((FXL)), Henderson Group ((HGG)), Tabcorp ((TAH)), and…drum roll…Rio Tinto ((RIO)).

Rudi will appear on Sky Business at noon and again between 7-8pm on Switzer TV to discuss reporting season and high PE stocks.

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