Daily Analysis 15 July 2022 (10-Minute Read)

Hello there,

A fantastic Friday to you as markets continue to flounder against a sea of troubles.

In brief (TL:DR)

  • U.S. stocks mostly fell on Thursday with the Dow Jones Industrial Average (-0.46%) and S&P 500 (-0.30%) down, while the Nasdaq Composite (+0.03%) was up slightly as investors took in the prospect of a steep interest rate hike in July.

  • Asian stocks pared losses Friday as investors assessed the outlook for U.S. Federal Reserve interest-rate hikes and the latest readings on China’s economy.

  • Benchmark U.S. 10-year Treasury yields dropped two basis points to 2.94% (yields fall when bond prices rise) as appetite for U.S. haven assets such as Treasuries soared.

  • The dollar was steady.

  • Oil was higher with August 2022 contracts for WTI Crude Oil (Nymex) (+0.84%) at US$96.58.

  • Gold recovered after dipping with August 2022 contracts for Gold (Comex) (+0.37%) at US$1,712.10.

  • Bitcoin (+1.14%) rose to US$20,473, and appears to be heading back towards US$21,000 as the benchmark cryptocurrency has started to become increasingly uncorrelated with stocks, and in particular the Nasdaq 100.


In today's issue...

  1. U.S. Tech Stocks Find an Unlikely Indian Retail Audience

  2. What are the bond markets saying?

  3. Bitcoin Correlation with Stocks at Lowest Level This Year


Market Overview

Traders are weighing up how hawkish the Fed must be to curb inflation. Bets on a one-percentage-point July rate hike have been scaled back after the latest commentary pointed toward 75-basis points.

Ebbing liquidity threatens to stir more market volatility after steep losses for stocks and bonds in 2022.

China’s second-quarter growth slowed on Covid lockdowns but consumption rallied in June as curbs eased. Officials refrained from injecting funds into the banking system and left borrowing costs unchanged.

Asian markets were mixed on Friday with Tokyo's Nikkei 225 (+0.58%), and Seoul's Kospi Index (+0.01%) up, while Sydney’s ASX 200 (-0.78%) and Hong Kong's Hang Seng Index (-1.32%) were down.



1. U.S. Tech Stocks Find an Unlikely Indian Retail Audience

  • During pandemic lockdowns, scores of IT-savvy Indians took to trading and cryptocurrencies to pass the time, and a slew of retail-facing trading apps catering specifically to the Indian retail investor took off.

  • According to Vested Finance, total buy volumes for all U.S. stocks in the quarter ended June were twice that of sales, as Indian retail investors snapped up and held on to their favorite U.S. equities.

Considering the price of food and fuel is skyrocketing in India, it may come as a surprise that retail investors struggling with cost-of-living expenses have the spare capacity to plonk some money down on U.S. tech stocks, yet that is precisely what they are doing.

During pandemic lockdowns, scores of IT-savvy Indians took to trading and cryptocurrencies to pass the time, and a slew of retail-facing trading apps catering specifically to the Indian retail investor took off.

And now, those Indian retail investors are taking advantage of a sharp correction in U.S. tech stocks to snap up what appears to them to be bargains, beefing up stakes in the likes of Tesla (+0.54%), Amazon (+0.21%) and Apple (+2.05%), according to Vested Finance, a platform which helps Indians buy and sell offshore stocks and ETFs.

According to Vested Finance, total buy volumes for all U.S. stocks in the quarter ended June were twice that of sales, as Indian retail investors snapped up and held on to their favorite U.S. equities.

While the Indian economy has been roiled by high commodity prices, it’s been said that India continues to buy heavily discounted oil and other commodities from Russia, which has helped to alleviate the worst of price increases.

Nevertheless, Indian retail investors haven’t yet been able to move the needle on U.S. equity markets, with shares of some of the biggest names in technology, including Microsoft (+0.54%), Apple, Amazon and Tesla having fallen anywhere between 15% to 40% over the last quarter, because of the U.S. Federal Reserve’s aggressive policy tightening measures.

The Nasdaq 100, an index that tracks primarily technology stocks and has a strong correlation with Bitcoin, plummeted by over 22%, its biggest quarterly decline since the 2008 Financial Crisis.

Although the massive selloff has meant that many Big Tech stocks are now available at better valuations than six months ago, U.S. markets are driven primarily by institutional flow and until the path for interest rates is clearer, markets may have yet to bottom out.

The U.S. Federal Reserve is struggling with the fastest pace of price increases in over four decades and markets are now pricing in the possibility of a 1% rate hike later this month, with headline inflation hitting 9.1%.



2. What are the bond markets saying?

  • With a jump in headline inflation to another fresh 40-year high in June, the U.S. Federal Reserve is expected to sharply increase interest rates at its meeting this month, raising the odds of the central bank triggering a recession.

  • Against this backdrop, investors are pouring into longer-dated U.S. Treasury bonds, anticipating that these securities will outperform equities and other risk assets if the U.S. slips into a recession.

Bond markets are sounding the alarm on recession as long-dated Treasury yields dip below short-dated ones with the U.S. Federal Reserve in the fight of its life against inflation.

Under normal conditions, U.S. Treasuries that are long-dated, for instance 30-year bonds, would be expected to deliver higher yields than short term instruments like a 2-year note because investors would need to be more heavily compensated for the opportunity cost of their money being locked away for a longer period.

Yield curve inversion occurs when long-dated bonds yield less than short-dated notes because investors believe that the economic outlook is poor, and as such are willing to be paid less because there are no better places to park their money in the future, typically a signal of rising recession expectations.

And that is precisely what is occurring at the moment.

With a jump in headline inflation to another fresh 40-year high in June, the U.S. Federal Reserve is expected to sharply increase interest rates at its meeting this month, raising the odds of the central bank triggering a recession.

If the Fed hikes rates by a full 1% this month, it would mark the biggest increase since the central bank started directly using the overnight rate to conduct monetary policy in the 1990s, raising the risk that already slowing growth will stall with borrowing costs stifling investment and consumption.

Against this backdrop, investors are pouring into longer-dated U.S. Treasury bonds, anticipating that these securities will outperform equities and other risk assets if the U.S. slips into a recession.

In a recession, equity prices and those of other risk assets, can be expected to fall and investors will seek out haven assets, such as Treasuries, sending the prices of such securities increasing which lowers their yield (yields fall when bond prices rise) and increases their price.

Which is why on Wednesday, long-dated Treasuries rallied hard in the wake of U.S. Consumer Price Index data, driving 10-year yields as much as 0.28% lower than 2-year yields, the most since 2000, after the dotcom bubble burst.

The jury is still out on whether the Fed will step in with a super-sized rate hike this month, especially with retail sales and housing data yet to be factored in, and policymakers are divided between a 0.75% hike and a 1% increase in borrowing costs.

Investors will now need to consider if the yield curve’s inversion will be like that of 2000, or the much steeper inversion experienced in the high inflation 1980s, where the Fed’s effort to keep inflation in check sparked off consecutive recessions.

So far, markets appear to be pricing in two 75-basis-point hikes for July and September (there is no Fed meeting in August), but there’s a chance that a persistently inverted yield curve could trigger a fresh credit crisis.



3. Bitcoin Correlation with Stocks at Lowest Level This Year

  • Bitcoin has drifted from U.S. stocks, with a 40-day correlation coefficient with the Nasdaq 100 falling below 0.50, levels that haven’t been seen since January.

  • With the risk that the U.S. could be pushed into a recession by a rapidly tightening Fed, the breakdown of the correlation between Bitcoin and the Nasdaq 100 could be telling.

As the cryptocurrency markets deleverage from the fallout of Luna, Three Arrows Capital, BlockFi, Babel Finance and a string of other centralized borrowers and counterparties, Bitcoin has done something unexpected, it’s started to drift from its correlation with stocks.

For most of this year, Bitcoin has been seen and traded like a risk asset akin to a high-growth technology stock, and its correlation with the Nasdaq 100, an index of U.S. tech stocks, hitting as high as 0.68 at one stage (a perfect correlation of 1 means that two assets move in lockstep).

But with the cryptocurrency markets in a massive unwind of leveraged positions, Bitcoin trading volumes on exchanges have thinned and blockchain analysis appears to be suggesting that more investors have become long-term “hodlers.”

As a result, Bitcoin has drifted from U.S. stocks, with a 40-day correlation coefficient with the Nasdaq 100 falling below 0.50, levels that haven’t been seen since January, raising the question whether drubbed-down cryptocurrencies are closer to a bottom than stocks and poised for a recovery should financial conditions ease.

Much will depend on the U.S. Federal Reserve and its response to the fastest pace of inflation in over four decades.

Earlier this week, the U.S. Labor Department reported white-hot headline inflation of 9.1%, the highest rate of price increases in over four decades and ratcheting up pressure on the U.S. Federal Reserve to act decisively to rein in inflation.

Markets are bracing for a Fed rate hike of anywhere between 0.75% to a whole 1%, the sharpest interest rate hike since the Fed started using interest rates to institute monetary policy in the 1990s.

But with a yield curve inversion, there remains the outside possibility that cryptocurrencies, and in particular Bitcoin, may have already found a bottom.

Unlike equities and commodities which are susceptible to more established methods of evaluation and assessment, cryptocurrencies are driven strongly by narrative, and as prices start to stabilize, there could be some investors tempted to put a portion of their portfolio to position for growth once financial conditions ease.

With the risk that the U.S. could be pushed into a recession by a rapidly tightening Fed, the breakdown of the correlation between Bitcoin and the Nasdaq 100 could be telling.

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