The Overnight Report: Hawkish Yesterday, Dovish Today

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By Greg Peel

The Dow closed down 34 points or 0.2% while the S&P lost 0.2% to 2071 and the Nasdaq lost 0.2%.

More of the Same

The change of mood was still evident yesterday morning in the wake of Tuesday’s hundred point capitulation as the index opened lower once more. Last week Brexit was a date on the calendar, this week it’s a looming potential catastrophe.

The market did nevertheless decide mid-morning that perhaps enough is enough. Brexit is by no means a given at this stage, and if the result is to stay, one presumes an almighty rebound. If it is to go, well a lot of that risk has already been priced in.

But after managing to hold its ground into the afternoon, the index conceded to selling late in the session to ensure the market closed on its lows. That selling may not, however, be specifically Brexit related. Today sees the expiry of June quarter ASX index options, SPI futures and futures options. If investors are rolling over protection, as is sensible to do before the potentially volatile expiry day, protection sellers are selling stocks to hedge.

The same thing happened on Wall Street last night. More on that in a moment.

While all sectors again finished in the red yesterday, this times the banks (-1.4%) were a particular stand-out. The biggest impact of a Brexit will be felt by the global banking industry, as reflected in the ongoing shift down in global interest rates.

Materials also fell 1.4% on the lower iron ore price and on hedge selling of large caps, which also ensured telcos were down another 1.1%, Thereafter, the magnitude of sector drops tailed off.

As was the case with Tuesday’s NAB business confidence survey, yesterday’s Westpac consumer confidence survey was never going to have much of an impact on a market worried about other things. As it was, it was a pretty solid result.

The confidence index fell 1.0% in June to 102.2. But given it jumped 8.5% in May following the RBA rate cut, economists suggest that to only slip back a percent is a sign of lingering confidence. And numbers over a hundred represent optimism. It’s also not a bad result given election uncertainty. The result pre-dates the sudden rearing of Brexit’s ugly head, but one wonders just how long the average consumer lays awake at night worrying about such matters.

Loss of Credibility

Before last night’s Fed statement release and Janet Yellen’s press conference in the afternoon, there were a couple of significant data releases in the morning.

The US producer price index rose 0.4% in May, beating 0.3% expectations, but it was all about oil prices. Take out oil and food, and the core PPI actually fell 0.1%. Nothing to suggest a rush to hike rates there.

Industrial production fell 0.4% to market the seventh decline in nine months. See above.

Yet according to the afternoon’s Fed statement, and despite a very low March quarter GDP result, the US economy is actually looking better now than it was in April when the last FOMC meeting was held. Back in April, it was the strong US labour market that was driving Fed thinking, and expectation of rising inflation. But now, the Fed sees the labour market slowing.

One bad apple don’t spoil the whole bunch girl. Maybe Donny Osmond should be Fed chairman. The Fed may be data dependent, but the FOMC will be a bit red-faced if the weak May jobs number does prove to be a one-off as many expect.

Whatever the case, the FOMC chose not to raise its cash rate last night. It was a unanimous decision, meaning prior hawks on the committee have now pulled their heads in. More importantly, the infamous “dot plots” showed the FOMC members have all reduced their rate expectations through to 2018. The Brexit vote may have held the Fed up this month, but it would seem a July hike just flew out the window.

Indeed, it appears the Fed may now only be looking at one rate hike this year, down from four after hiking in December. The market thinks even one is becoming unlikely. What has everyone frustrated is that in April the Fed suddenly swung to be quite hawkish, leading markets to prepare for a June rate hike that seemed inevitable. Then came one bad jobs number. Now the Fed is back to being dovish again.

The market had always been dovish. The Fed has come back to meet the market. Who is influencing who?

There is also general feeling, Brexit fears aside, that the Fed simply cannot risk a rate hike when Japan is negative, half of Europe is negative and Germany is on the cusp of negative. The gap may be too much for global markets to handle. Not that global markets are supposed to be the US Federal Reserve’s responsibility.

The fact that the Fed has come back to meet the market was reflected in stock index movements over the session. Indices were a little higher in the morning thanks to rebounds in Europe, and typically quiet ahead of the statement release. On the statement release they did very little at all, which is most unusual. The Dow sat at around 50 points up all through Yellen’s press conference and beyond.

The fact the Dow closed down 34 points, representing a sharp late sell-off, has been attributed to Friday night’s “quadruple witching” equity derivatives expiry – the equivalent of what the Australian market will see today only of a much greater magnitude. The June quarter always represents the biggest expiry volumes, and typically the market starts to roll over positions a couple of days ahead. With protection still being sought at this time of uncertainty, rollovers translate into stock selling.

Commodities

West Texas crude is down another US41c at US$47.49/bbl.

Whatever’s going on in base metals at present, no one’s quite sure. The LME always closes just as the Fed statement is being released, which usually means little movement until the night after. But last night copper jumped 2.7%, following a couple of weak sessions. Aluminium rose 0.5% and nickel and zinc both around 1%, while lead stood still. Short covering was cited.

Iron ore fell US60c to US$50.20/t.

The US dollar index is down 0.4% to 94.59, but that’s all post-Fed. Gold is up US$6.00 at US$1291.50/oz, having briefly kissed 1300 post-Fed.

The Aussie is up 0.8% at US$0.7408 but that is not a Fed-related spike. The Aussie has steadily been climbing over the past 24 hours, possibly as the world comes to realise Australia’s is one of the few developed economies left offering reasonably positive rates. Even at 1.75%.

Today

The SPI Overnight closed up one point. Have we seen the end of the pre-Brexit vote selling? Today, as noted, is expiry day, so anything might happen.

And to that end we note the Bank of Japan will hold a policy meeting today, no doubt very relieved the Fed has backed off.

Locally we also see the May jobs numbers today.

Goodman Group ((GMG)) and Graincorp ((GNC)) will host investor days.

Rudi will make his weekly appearance on Sky Business, 12.30-2.30pm, only to return again between 7-8pm for an interview on Switzer TV.

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