Daily Analysis 27 May 2022 (10-Minute Read)

Hello there,

A fantastic Friday to you as Asian stocks gain on a U.S. rally while bond yields remain stable helping to fuel risk appetite.

In brief (TL:DR)

  • U.S. stocks rose on Thursday with the Dow Jones Industrial Average (+1.61%), S&P 500 (+1.99%) and the Nasdaq Composite (+2.68%) all up as yields were held down and investors bet on a less aggressive Fed.

  • Asian stocks were buoyed Friday by a rebound on Wall Street and better-than-expected earnings at Chinese technology companies.

  • Benchmark U.S. 10-year Treasury yields rose 1 basis point to 2.76% (yields fall when bond prices rise) but were otherwise stable, reflecting consistent demand for bonds.

  • The dollar dipped.

  • Oil was stable with July 2022 contracts for WTI Crude Oil (Nymex) (+0.04%) at US$114.04 after being bolstered by the broad-based market rally and on signs of declines in U.S. stockpiles.

  • Gold edged higher with August 2022 contracts for Gold (Comex) (+0.23%) at US$1,858.20.

  • Bitcoin (+3.02%) fell to US$28,920 (at the time of writing), rebounding somewhat from as low as US$28,000 at one stage while altcoins continue to be hammered by the fallout from the TerraUSD collapse and demand for DeFi waning.


In today's issue...

  1. Inflation Matters to Investors Less than Recession

  2. Dissent at China’s Highest Echelons Disrupts Economic Recovery Measures

  3. Altcoins Get Hammered while Bitcoin holds Firmer


Market Overview

Global stocks look set to snap seven weeks of declines that made valuations attractive and enticed investors back into a market still shadowed by worries about inflation and higher interest rates, China’s downbeat economic outlook and the war in Ukraine.

China stocks rose as investors look for concrete measures to revive the battered economy. Policy makers are grappling with how to balance controlling a virus outbreak with economic growth.

Asian markets rose Friday with Tokyo's Nikkei 225 (+0.66%), Seoul's Kospi Index (+0.85%), Hong Kong's Hang Seng Index (+2.91%) and Sydney’s ASX 200 (+0.99%) all up in the morning trading session on the back of a rally on Wall Street.



1. Inflation Matters to Investors Less than Recession

  • After being hammered for the most part of this year, government bonds are seeing a rebound from fears over the health of the economy.

  • Because the outlook for the global economy looks bleak, yields in sovereign debt, especially the safest ones, will continue to decline and the typical inverse correlation between bonds and stocks could reverse.

If the bond markets are communicating anything, it’s that investors are increasingly worried about growth as opposed to inflation.

After being hammered for the most part of this year, government bonds are seeing a rebound from fears over the health of the economy.

Benchmark U.S. 10-year Treasury yields, which had at one point shot past 3% for the first time since 2018, have now settled at a lower level that is well below the rate of inflation, with demand for haven assets returning while riskier assets have been dumped.

A Bloomberg gauge of long-term U.S. Treasuries is on course for its third consecutive weekly rise, a rebound echoed in European sovereign bonds as well.

For many investors who had rotated out into cash, shifting into bonds makes sense now as yields look the most attractive they have in a long time and cashing in early on yields now makes good sense before they start to fall further.

Yield on the benchmark U.S. 10-year Treasury has retraced to 2.71% from a high of 3.2$ just two weeks ago and on Thursday, it reached the lowest level since mid-April.

While inflation in the U.S. remains close to its highest levels in over four decades, market expectations of longer-term inflation have started to ease and worries about growth are starting to seep in.

In the U.S., evidence of an impending slowdown has been reflected in company earnings reports from some of the country’s biggest retailers and consumer staples companies.

Europe is contending with soaring energy prices and a war in its backyard while China is mired in a seemingly endless cycle of zero-Covid lockdowns.

Because the outlook for the global economy looks bleak, yields in sovereign debt, especially the safest ones, will continue to decline and the typical inverse correlation between bonds and stocks could reverse.



2. Dissent at China's Highest Echelons Disrupts Economic Recovery Measures

  • The Chinese Communist Party, especially at its highest echelons, has long sought to put on a unified front.

  • Some intrepid global investors have already started to inch their way back into Chinese assets, but there are few rewards for the bold in this case, and plenty of risks.

Since Chinese leader Deng Xiaoping instituted market reforms and set China on a path towards becoming the world’s second largest economy, the Chinese Communist Party, especially at its highest echelons, has long sought to put on a unified front.

Factional rivalry in China’s Communist Party is not uncommon, but since Chinese President Xi Jinping came to power, his iron fist was brought to bear, crushing political rivals under the guise of purging corruption, while consolidating power in himself.

Whereas Deng sought to move the CCP away from the cult of leadership that Chairman Mao Zedong had fashioned around himself, paving the way for a rapidly rising economy, Xi, has sought to do the exact opposite.

There is nary a committee within China’s lumbering bureaucracy that Xi does not sit on as Chairman and few if any decisions are made without his blessing.

So when Xi’s number two, Premier Li Keqiang voiced a very public dissent to his boss’s handling of the coronavirus crisis, investors should take note – all is not well in the state of China.

Just over a year ago, in an address to thousands of top Chinese officials, Xi called for a “people’s war” against the pandemic, but on Wednesday, Li had a diametrically different message to his fellow cadres, warning that the nation faces an even worse economic crisis should a better balance between pandemic controls and economic growth not be found.

Embedded (and ignored by Xi) within the Chinese social compact has been a tacit agreement that so long as the CCP would deliver the economic goodies, most Chinese were content to look the other way on individual freedoms.

With rolling crackdowns on some of China’s most lucrative industries, from real estate to technology, and lockdowns of entire metropolises for a handful of Covid cases, more Chinese than ever before are questioning the sanctity of their compact with the CCP.

Making matters worse, the lower-level Communist Party apparatchiks that are charged with implementing policy no longer no who they should listen to.

Xi continues to double down on zero-Covid cases, even as flareups from the highly virulent Omicron variant continue to plague China’s largest cities, while Li wants them to bolster the economy to hit preordained growth targets.

The result has been that local government officials and financial bureaucrats have become paralyzed to act, helping neither cause.

But investors expecting some kind of internal coup within the CCP that could turn the economic fortunes of China around may be gravely mistaken.

Because Li cannot change the one policy that would make a difference to the economy – rolling back the zero-Covid measures, he essentially will become the whipping boy and scapegoat when China’s economy eventually fails to meet set targets and Xi would have yet again eliminated another potential political rival.

If nothing else, Xi has no interest to stimulate the economy, but has somehow become fixated on zero-Covid as a way to trumpet the superiority of the Chinese system of government, something which investors are continuing to pay dearly for.

China’s benchmark CSI 300 Index remained flat, after falling as much as 1.1% on Wednesday while shares in Hong Kong were declined, led by Chinese firms listed there.

Some intrepid global investors have already started to inch their way back into Chinese assets, but there are few rewards for the bold in this case, and plenty of risks.



3. Altcoins Get Hammered while Bitcoin holds Firmer

  • While it’s been pretty much a sea of red for nearly everything in cryptocurrency markets, altcoins such as Ether, Solana and Avalanche, the smart contract trio, have taken a beating.

  • Bitcoin meanwhile, the venerable cryptocurrency has still managed to hold its head above the rest, falling to as low as US$28,000 at one stage before recovering.

In a scene reminiscent of the stock market, the riskiest segments of the cryptocurrency markets are getting hammered a lot harder than “blue chip” tokens like Bitcoin.

While it’s been pretty much a sea of red for nearly everything in cryptocurrency markets, altcoins such as Ether, Solana and Avalanche, the smart contract trio, have taken a beating.

Traders were caught off guard by the sharp correction in Ether, especially since the cryptocurrency that has been the de facto standard for smart contracts, is set to move to a game-changing and environmentally friendlier proof-of-stake later this year.

Dubbed “The Merge” Ethereum will throw off its current energy intensive proof-of-work method to secure its blockchain with the far more energy efficient proof-of-stake, where existing holders of Ether “stake” some of their cryptocurrency to validate transactions.

Some observers have pointed to the collapse of TerraUSD, LUNA and Anchor Protocol as only now rippling through the rest of the cryptocurrency markets, but signs of a lack of demand for Ether have been building for some time.

Part of the draw for protocols such as Ethereum, Avalanche and Solana is that they are integral to decentralized finance or DeFi and are used to generate yield from a variety of smart contracts built for lending, investing, speculation and borrowing.

But the collapse of TerraUSD has scared investors off of DeFi for now and also raised the stakes for Ethereum’s merge later this year – if it doesn’t go according to plan or even if there is a sign of any delays, Ether could drop even further.

Technical chart watchers have noted that Ether remains well below a key trading level – US$2,000, which it needs to trade above meaningfully, and soon, before bearish sentiment takes grip.

Bitcoin meanwhile, the venerable cryptocurrency has still managed to hold its head above the rest, falling to as low as US$28,000 at one stage before recovering.

Comments by the former crypto-sceptic CEO of JPMorgan Chase, Jamie Dimon, that Bitcoin has even further to go higher, has helped to act as a bit of a buffer for Bitcoin’s decline.

Bitcoin is increasingly being seen as a “safer” asset in an otherwise volatile market and a growing number of investors are rotating out of so-called altcoins, into Bitcoin while the market finds its footing.

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