The Monday Report – 21 June 2021

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World Overnight
SPI Overnight (Jun)	7326.00	– 42.00	– 0.57%
S&P ASX 200	7368.90	+ 9.90	0.13%
S&P500	4166.45	– 55.41	– 1.31%
Nasdaq Comp	14030.38	– 130.97	– 0.92%
DJIA	33290.08	– 533.37	– 1.58%
S&P500 VIX	20.70	+ 2.95	16.62%
US 10-year yield	1.45	– 0.06	– 4.04%
USD Index	92.23	+ 0.32	0.35%
FTSE100	7017.47	– 135.96	– 1.90%
DAX30	15448.04	– 279.63	– 1.78%

By Greg Peel

Rotation

The ASX200 had two attempts to breach 7400 on Friday, failing both times, and as a small net gain for the day suggests simply gave up in the afternoon.  But the small gain belies some significant sector switching below the surface.

The Nasdaq hitting a new high on Thursday night appeared to trigger a resurgence in the local tach sector, led by the big BNPL names Afterpay ((APT)), up 6.5%, and Zip Co ((Z1P)), up 9.9%. The sector closed up 3.5%.

Consumer discretionary rose 2.0%, following a rush of buying in the beaten-down, and heavily shorted, travel industry names.

Healthcare gained 1.3% as a beneficiary of the plunging Aussie dollar, which is due to the surging US dollar, which is due to a seemingly more hawkish Fed, despite Jay Powell’s ongoing dovishness.

Just to emphasise the level of confusion regarding Fed policy, on Thursday local defensive stocks were sold down but on Friday they were bought back up again. Telcos fell -1.9% on Thursday and rose 1.9% on Friday, utilities were down -1.1% and bounced 0.5%, and property was down -1.5% and bounced 0.7%.

The resource sectors were nonetheless sold down again, with energy down -1.9% and materials down -1.1%. The banks rounded out the selling with a -0.7% drop.

The question from here is: does the market fear inflation, and thus the first steps towards tightening from the Fed, or has the market now adjusted for that assumption?

Rather than attempt to pick apart Friday’s local trade any further, today might be more telling.

The answer might become more apparent, given the SPI futures closed down -48 points on Saturday morning. Once again it’s all about the Fed, and signals from the market remain confusing. All major US indices fell heavily on Friday night.

Release the Hawks

“We were expecting a good year, but this is a bigger year than we were expecting, more inflation than we were expecting. And I think it’s natural that we’ve tilted a little bit more hawkish here to contain inflationary pressures.”

This comment on Friday morning in New York, from St Louis Fed president James Bullard, rather underscored the FOMC’s shift to a more hawkish positioning even if the Fed chair continues to play it down.

In December, the Fed was forecasting a 4% growth rate for US GDP in 2021. Last week that was raised to 7%. The Fed had expected inflation (PCE) to rise 1.8%, but has now lifted that to 3%.

Jay Powell did concede at his press conference it was probably now time to start talking about talking about tapering, but Bullard suggested on Friday night he expected “in-depth discussions” of slowing asset purchases would start now that the Fed chair had opened the door for the debate.

The next Fed meeting is in late July. Note that the RBA’s critical QE repositioning decision will be made next week.

The Dow opened down -500 points, spent most of the session down around -400 points, and right at the death dropped to its lows for the session. All major indices closed lower, but the Nasdaq slightly outperformed.

Which seems wrong, given the tech sector is considered the hardest hit by rising rates. Also looking unusual was a -6 basis point drop in the US ten-year yield to 1.45%, when all year inflation scares had been driving up the ten-year, at least until Wall Street became more comfortable with the idea.

But the move in US yields on Friday night was not so surprising. Since covid hit, the Fed has anchored US short-end rates at near zero, while the longer-end rates have been reflecting inflation concerns. The impact of Bullard’s words on Friday night was to push short end rates up (bearing in mind a Fed rate rise impacts the overnight rate), and long-end rates down.

Two and five-year rates rose while ten and thirty-year rates fell, which implies a flattening of the yield curve. In 2021, the yield curve has been particularly steep given a stubborn Fed on the one hand and a non-believing market on the other. Hence, in recent times, Wall Street had been flooding into the “reflation trade”.

The Fed stood by as prices for materials and energy surged, and the banks were the big recipients of the steep curve. If the Fed was not going to act, then the place to be was in those sectors actually benefiting from inflation, and not in those sectors (eg tech) that did not. But more recently, the tables have turned.

Many commodity prices, such as that of lumber in the US, and copper globally as China clamped down, had already come off the boil before the US dollar reversed and shot up on the Fed’s upgraded economic forecasts. While the big losses in commodity prices were seen on Thursday night, with Friday night a little more muted, those sectors still copped the brunt of Friday night’s selling.

Once again the two worst performing sectors were the banks, given the flattening yield curve, and energy, despite small gains in oil prices, with materials not far behind.

Meanwhile, the Nasdaq had returned to its high, with analysts pointing out it is wrong to classify the mega-cap tech names as “growth” along with the plethora of newer tech high flyers. Sure, the Amazons of the world may still be growing, but they now churn out substantial earnings and pay dividends, while many popular, newer names are yet to post any earnings and pay no dividends. In other words, for the mega-caps inflation needn’t be feared.

The bottom line is Wall Street is still trying to figure out what the stance should be. It appears the reflation trade is no longer the place, if the Fed is now looking at tapering. Best to sell first and then give it more thought, which is likely what we saw on Friday night.

It should be noted, nevertheless, that Friday was derivate expiry in the US and a quarterly index rebalance so it was always likely to be a volatile session.

We will also give the last word to James Bullard, who despite confirming his hawkishness did add, with regard the timing of tapering: “It may take “several meetings” for the Fed to “get organised.” Note that the Fed meets only every six weeks.

Commodities

Spot Metals,Minerals & Energy Futures
Gold (oz)	1763.80	– 10.20	– 0.57%
Silver (oz)	25.79	– 0.11	– 0.42%
Copper (lb)	4.19	– 0.02	– 0.40%
Aluminium (lb)	1.09	– 0.00	– 0.33%
Lead (lb)	0.97	+ 0.01	0.84%
Nickel (lb)	7.84	– 0.03	– 0.32%
Zinc (lb)	1.29	– 0.04	– 2.70%
West Texas Crude	71.64	+ 0.60	0.84%
Brent Crude	73.51	+ 0.39	0.53%
Iron Ore (t)	217.30	– 3.50	– 1.59%

The latest news in metal land is that Beijing intends to release strategic reserves of aluminium, copper and zinc to keep a lid on prices. Zinc appeared to be the hardest hit by this news on Friday night, while other metals had seen big falls on Friday night.

News over the weekend is that the Iran nuclear deal is again very close to being resolved, albeit with the incumbent government. The new government takes over in August. If a deal is reached, Iranian oil exports can flow again, but will OPEC let Iran immediately catch up?

OPEC meets next week.

The US dollar index rose again, but only by 0.4% on Friday night. Yet the commodity-driven Aussie fell yet another -1% to US$0.7485.

The SPI Overnight closed down -48 points or 0.6%.

The Week Ahead

Locally we’ll see a preliminary read on May retail sales today.

The US will see new and existing home sales and durable goods orders ahead of Friday’s release of May PCE inflation, along with consumer sentiment. A revision of March quarter GDP will be made on Thursday, but it’s getting a bit old hat.

Wednesday brings flash estimates of June PMIs from across the globe.

The Bank of England meets on Thursday.

With the local corporate calendar about to move into the post financial year dead zone, the only event of note this week is CSR’s ((CSR)) AGM on Friday.

The Australian share market over the past thirty days…

BROKER RECOMMENDATION CHANGES PAST THREE TRADING DAYS
CGF	Challenger	Downgrade to Neutral from Buy	UBS
COL	Coles	Downgrade to Neutral from Buy	Citi
		Downgrade to Neutral from Outperform	Credit Suisse
CSL	CSL	Downgrade to Neutral from Outperform	Macquarie
DMP	Domino's Pizza Enterprises	Downgrade to Hold from Add	Morgans
EVT	Event Hospitality & Entertainment	Downgrade to Neutral from Buy	Citi
ILU	Iluka Resources	Upgrade to Outperform from Neutral	Macquarie
IVC	Invocare	Downgrade to Sell from Neutral	Citi
NIC	Nickel Mines	Upgrade to Buy from Neutral	Citi
SEK	Seek	Upgrade to Outperform from Neutral	Macquarie
SGM	Sims	Upgrade to Buy from Hold	Ord Minnett
SOM	Somnomed	Downgrade to Hold from Add	Morgans
SUN	Suncorp	Downgrade to Neutral from Outperform	Credit Suisse
		Downgrade to Hold from Add	Morgans
WHC	Whitehaven Coal	Downgrade to Neutral from Buy	Citi

For more detail go to FNArena's Australian Broker Call Report, which is updated each morning, Mon-Fri.

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