Weekly analysis

European banks have a considerable upside potential over the coming year if the mean reversion in the German 10-year yield continues amid rising global inflation. A steeper yield curve and positive yields in Europe could take European banks' price-to-book ratio back to the recent historical average of 0.8x and then beyond. The industry has improved over the past years with Deutsche Bank being.
Our view is that the value vs growth, higher inflation, and higher interest rates, will continue the mean reversion happening in the German 10-year yield and help European banks move back to the average price-to-book ratio since 2009 of 0.8x and likely beyond to 0.9x helped by macro policies. This means from current levels that European financials could see a 20-40% upside over the coming 6-12 months.

Gold’s inability to build on the previous weeks strong rejection below $1680, now a double bottom,helped trigger a 16% reduction in the net-long to 64.8k lots. The reporting week ended before Thursday’s technical breakout above $1765, a development that is likely to have attracted fresh fund buying from momentum and trend following strategies.

Gold (XAUUSD) ticked higher in Asia overnight after closing above the key resistance-turned-support area at $1760-65/oz on Friday.  Partly driven by a continued rise in global corona virus cases worldwide supporting safe havens like Treasuries and gold. Continued focus on dollar and yields as well as geopolitical developments between the U.S. and Russia. Important resistance levels, using Fibonacci, at $1785 (double top) and $1818.

Bank of Japan (BOJ) Governor Haruhiko said on Monday that each recession has different characteristics   that the difference in the severity of the downturn among industries, business types and occupations.

The Japanese yen has been very weak over the last twelve months on the argument that a global reflation is JPY negative, particularly with the steepening of global yield curves on the anticipation of a durable inflation cycle settling in at a time when Japan’s central bank has moved to explicitly cap its ten year yield at 0.25%. This has kept the yen very sensitive to rising long yields, especially this year and the rise at the longer end of the US and other yield curves. But a couple of developments here are reminding us that the JPY weakness has perhaps extended too far To these JPY-supportive factors we have to add the reminder overnight of Japan’s seeming immunity to rising prices elsewhere, even as its currency has been very weak over the last twelve months. The headline April CPI number was out at -0.4% year-on-year (-0.5% expected) and the core ex Fresh Food and Energy was -0.2% vs. -0.1% expected. Real yields in Japan, in other words are positive in April when US yields went to worse than -400 basis points in that month! The last missing piece that would drive a more determined JPY consolidation higher and possibly even a notable spike, as I discussed in a recent post, would be anything that spooked credit and saw a widening in credit spreads in corporate- and emerging market debt, something that has been largely absent as a factor since the pandemic broke out last year, although we are seeing some modest widening of US corporate credit spreads over the last couple of weeks.  

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The March Ivey PMI just missed a record reading at a stunning 72.9, imitating the strength in the ISM surveys south of the border recently, even as Canada’s vaccination effort badly lags that of the US. But a bit of trend exhaustion and crude oil bogged down into a range has seen an interesting recent reversal in USDCAD after a poke all the way below 1.2400 in March. Inverted head and shoulders formation with the sloping neckline coming in not far above 1.2600. The commodity dollars could be in for another round of consolidation lower before putting up a stand further down the line. A break of resistance here would likely shift the focus to the big 1.3000 area.

AUDUSD is a decent proxy for this latest USD move lower as well as the ramp since the pandemic lows in key commodities prices that are drivers of Australia’s economy, including especially iron ore. In the recent cycle is China’s ban on importing thermal coal from Australia and some discussion that China may halt LNG imports as a next step after halting strategic economic dialog talks “indefinitely” recently. The weak US payrolls on Friday drove the pair above the prior 0.7800-25 resistance, but the price action has gone nowhere since, restrained chiefly by weak risk sentiment. Meanwhile, the RBA, while it has teased the July meeting as being in play for adjustments in guidance, remains in wait and see mode together with the Fed, so short term Australia-US yields spreads, and even 10-year yield spreads, for that matter, are not signaling huge support for a move higher  10 years a bit more so recently than the 2 year swap spread, which mid-range from the early March peak  Tactically, if the pair closes back below 0.7750, traders will have a bearish reversal on their hands, while we likely need a new jolt lower in the US dollar that shifts the fundamental indicators more sharply against the greenback to get the bullish case back on track.  

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The European Commission negotiated on behalf of all the EU countries with the vaccine manufacturers and succeeded in buying the jabs cheaply, holding the drug companies to account and obtaining enough to vaccinate the whole of the EU.

Unfortunately, side effects included delays in delivery, bickering between the EU states and a slower vaccination program than either the US or the UK. The result: a weaker Euro on the likelihood that the EU economy will recover more slowly from the slump caused by the pandemic than other nations and regions. Moreover, that’s a perception that will likely persist for many more months and that, in turn, will likely mean the Euro weakens further.  

As the chart above shows, the Euro has been climbing against the Yen for months now; indeed EUR/JPY has been advancing since the start of the pandemic, which is remarkable given that the Yen was once seen as a safe haven. There has only been one safe haven over the past year and that, of course, has been the US Dollar.

In the end of the first quarter, there were signs that the Yen was coming back into go-to currencies for traders seeking havens and that suggests it could well strengthen in the second quarter if the global economic recovery fails to emerge at quite the optimistic rate the markets seem to be expecting.

So, putting together a weak Euro with a stronger Yen, there is plenty of scope for EUR/JPY to weaken if  like me  you think the recovery will be rather bumpier than current market pricing implies.

Copper reached a record high above $10,300 per tons on the London Metal Exchange and $4.72/lb in New York. Copper is front and centre in the rally that is currently driving raw materials to multiyear or even record highs. Being an integral part of the green transformation process through the rollout of millions of electricity-hungry vehicles over the coming years, copper has surged higher on a combination of both physical but also paper demand from investors looking for inflation hedges in markets with a strong fundamental outlook. An outlook that according the Glencore could see the need for 50% higher prices in order to provide mining companies the economic incentive to increase the search for additional supply.

Copper’s strong uptrend during the past year has seen the price not only double but even accelerating since its latest correction last month. On daily charts, RSI divergence seems to be building which could indicate the short-term risk of the uptrend becoming exhausted, however, a trend change is not in the cards.

Gold finally managed to mount an attack strong enough to take it above $1800. While lower U.S. real yields and a softer dollar provided the fundamental tailwind the yellow metal needed support from in-demand silver, one of the best performing commodities this week. During the past month, the continued rally across industrial metals have supported silver relatively more than gold. This can be seen through the gold-silver ratio which has been declining since late March.

In order for gold to continue higher, it first needs to establish support above $1795 before chasing after long-term trend following short positions. The next level of upside interest is $1851, the 200-day moving average and 61.8% retracement of the January to March sell-off.

The Japanese yen seems the most sensitive to US yield moves, and the USDJPY consolidation was very tight relative to the size of the prior range and the size of the move in other JPY crosses. If US yields poke back higher, the big 110.00 area in USDJPY could come under fire  the last level that bars the way to 115.00 there. On the flip-side, if rising yields go away as a threat for a time and the “Asian malaise” that is showing signs of moving into US equities as well, both the USD and the JPY could add on to their recent strength. 

So far, in USDJPY has been very shallow and now we have the pair looking back toward the cycle highs. The 110.00 level a bit higher continues to look important as the approximate current top of the years-old descending channel, but also as a psychological level of  note and the last area before the more well-defined 114.50 area  Japan’s financial year end is March 31.

The five largest companies in terms of market value in the S&P 500 (Apple, Microsoft, Amazon, Facebook, Alphabet, and Tesla) are the most important earnings for sentiment this week.

This week seven out the 10 largest companies in the S&P 500 will report earnings representing 15% of the MSCI World Index. Besides these mega companies hundreds of the world's most important companies across banking, energy, health care, social media and online advertising will report earnings. It is basically make or break for global equities this week, and the show starts Monday with Tesla where expectations are so high that it is almost an unbearable task for the management to deliver despite recently strong Q1 delivery numbers.  

Tesla expectations are high for Q1 results with revenue at $10.4bn up 74% y/y, but down from Q4 2020, driven by strong demand for electric vehicles. Tesla’s outlook is key, and investors will be looking at any signs of weakness from increased competition and pricing pressure in China.

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The Bank of England meeting came and went with lack of concern on the steep backup in longer term yields of late suggests that the bank retains the same comfort that fiscal stimulus is sufficiently strong in the UK to overwhelm any concern about longer rates rising. EURGBP champing at the bit for more declines – are we set for a run all the way to 0.8300? The market is getting more aggressive in pricing in BoE hikes than Fed hikes for the late 2022 time frame. Local resistance at 1.4000 in GBPUSD quite clear-cut for whether that pair can press higher.

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