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Weekend Edition 16-17 April 2022 (10-Minute Read)

Hello there,

A Happy Easter Weekend to you as U.S. markets remain closed for the holiday while Asian markets continued to sink on lower-than-expected stimulus measures from China.

In brief (TL:DR)

  • U.S. stocks ended lower on Thursday with the Dow Jones Industrial Average (-0.33%), the S&P 500 (-1.21%) and the Nasdaq Composite (-2.14%) all down ahead of the Easter break.

  • Asian markets that were open closed lower as China unexpectedly opted against cutting a key policy rate to support an economy hamstrung by Covid lockdowns and delivered lower-than-expected reserve ratio cuts for its lenders.

  • Benchmark U.S. 10-year Treasury yields jumped 13 basis points to 2.83% Thursday (yields rise when bond prices fall).

  • The dollar rose against all its Group-of-10 peers, with the yen struggling.

  • Oil closed into the Easter holiday with May 2022 contracts for WTI Crude Oil (Nymex) (+2.59%) at US$106.95 on continued supply concerns.

  • Gold entered the holiday lower with June 2022 contracts for Gold (Comex) (-0.49%) at US$1,974.90.

  • Bitcoin (+0.78%) rebounded to US$40,500 as it enters into cyclical gyrations that have seen the benchmark cryptocurrency straddling the US$40,000 level.

In today's issue...

  1. Beijing opts for Nutcracker when Economy calls for Sledgehammer

  2. Nothing Can Break the Resolve of Dip Buyers

  3. Ethereum Upgrade - Don't Hold Your Breath

Market Overview

Western markets ended the week lower as they take a well-deserved break for the Good Friday holiday and the Easter Weekend.

There are growing signs that the Russian invasion of Ukraine is coming unglued and doubts remain about the capability of Putin's remaining forces to mount a substantial campaign in the Donbas region which is home to a determined and battle-hardened Ukrainian resistance.

Some investors are betting on a faster-than-expected resolution of the conflict, as Moscow's military aims become more conservative and the death toll mounts, while Kyiv reports that the spring planting season may have some surprise on the upside.

Asian markets were lower on Friday with Seoul's Kospi Index (-0.76%) and Tokyo's Nikkei 225 (-0.29%) down, while Hong Kong and Sydney were closed for the Good Friday holiday.

1. Beijing opts for Nutcracker when Economy calls for Sledgehammer

  • The People's Bank of China delivers far less monetary stimulus and easing measures than most economists had predicted or called for.

  • Economists are revising downwards overall growth forecasts for China and investors looking to pick up bargains may want to consider escalating political risks especially if Chinese President Xi Jinping's leadership renewal is somehow derailed.

With whole metropolises mired in pandemic lockdowns and citizens starving due to a lack of supplies, China is increasingly looking like the dystopian landscape envisaged by George Orwell in his novel “1984” where everything is monitored by “Big Brother.”

And now, an economy crying out for reprieve is being met with nonchalance as China’s central bank, the People’s Bank of China (PBoC) has held back on cutting key interest rates, instead providing a modest cash boost on Friday.

Analysts had anticipated that the PBoC would need to intervene more aggressively in a rapidly slowing Chinese economy and had forecast that the central bank would slash rates on Friday to spur growth.

Instead, the PBoC demonstrated its reticence to commit to the Chinese economy with a smaller-than-expected reserve requirement ratio cut of just 0.25%, half of what many had been expecting.

One-year policy interest rates were unchanged, a move which sent Asian stocks lower.

But the lack of action by the PBoC may also reflect the futility of monetary policy when the bulk of economic pressure is coming from Beijing’s ill-advised and stubborn adherence to zero-Covid policies and locking down of entire cities with populations larger than whole countries.

The PBoC’s lack of action also reflects how it may be hamstrung by policy tightening in other markets such as the U.S. and Europe as well as rising inflation risks from commodity imports.

Nevertheless, every bit may help, and Chinese President Xi Jinping’s doubling down on zero-Covid is starting to cause public rifts in the Chinese Communist Party that typically aims to represent a unified front to the people and the world.

In recent weeks, Chinese Premier Li Keqiang, who has been politically a pale shadow in Xi’s wake, said no less than three times that China’s zero-Covid policies are threatening the economy, even as his boss Xi came out to publicly support them.

Top Chinese officials other than Xi are also repeatedly warning of the risks to growth and the need for more monetary and fiscal stimulus even as economists have been downgrading China’s growth forecasts.

Investors eyeing the Chinese market for bargains may need to consider what the path forward from an increasingly fractious political climate in Beijing may portend.

For starters, Xi is looking for an unprecedented third term as leader of the world’s second largest economy and his grip on power looks unassailable.

But stranger things have happened and Xi’s dogged doubling-down on zero-Covid could ultimately prove his political undoing, as impossible as it may appear from the outside.

Even if it doesn’t, then poorly-informed policymaking with all decisions centered around Xi, who sits on an impossibly large number of committees means that the path for the Chinese economy looks uncertain.

At a time when risks are rising everywhere, to take bets on China now would be irresponsibly speculative.

2. Nothing Can Break the Resolve of Dip Buyers

  • Investors continue to buy the dip on U.S. stocks and this could be because there are few alternatives out there as well as the resilience of the U.S. economy.

  • American consumer sentiment and consumption appears to continue supporting the belief in the resilience of the U.S. economy, but prices cannot keep rising indefinitely, despite an apparent willingness to accept it for now.

Pestilence, invasion, tightening and inflation have not deterred the resolve of investors continuing to “buy the dip” on stocks and while they have challenged even the most determined bullish animal spirits, they have failed to exorcise them altogether.

Despite the hottest U.S. inflation print last week in over four decades, the benchmark S&P 500 rebounded midweek by the most in a month.

Yields which had seemed to achieve exit velocity also eased, while industrials held firm and volatility benchmarks responded surprisingly with a collective yawn.

This resilience in stocks is all the more notable considering that the U.S. Federal Reserve hasn’t tried to hide its impending hawkishness and a policy meeting in early May that is expected to see interest rates hiked by 50 basis points.

It’s possible that investors are baking inflation into asset prices already and may be in a position known as the TINA trade – There Is No Alternative – when it comes to investing.

But on the other hand, it’s also possible that investors are reading through the U.S. Bureau of Labor Statistics data to see that core inflation – which strips out volatile food and energy prices, is starting to ease in its accelerative trend.

Given the risks of tipping the U.S. economy into recession through overly aggressive policy tightening, investors may be betting that easing inflationary pressures (especially if the Russian invasion of Ukraine should come to an end sooner than expected) could spur the U.S. Federal Reserve to be more restrained in its hawkish pivot.

Against this backdrop, U.S. retail sales ticked higher in March, although that was helped by an 8.9% jump in spending on fuel, which may not necessarily reflect overall consumer demand or optimism.

Nevertheless, retail spending data in the U.S. suggests that Americans appear to be willing to spend despite the rising prices of goods and services, even as recession risks start rising in the near term.

And that may be why stock investors continue to remain bullish – Americans are still spending, but if costs continue to rise unabated, it’s less clear how long this trend can continue.

3. Ethereum Upgrade - Don't Hold Your Breath

  • Possible timeline emerges for a major Ethereum upgrade in the second half of this year as another key stress test is cleared, bringing closer the prospect of proof-of-stake on the world's second-most valuable blockchain.

  • Ether's price continues to show resilience and may be expected to outperform should the software upgrade of underlying Ethereum blockchain progress smoothly.

Even the most rudimentary software upgrades are fraught with risks, so imagine upgrading a multi-billion dollar decentralized piece of open source software that requires coordination with varied stakeholders and upon which billions of dollars more worth of transactions depend.

To say that the risks are high in Ethereum’s upcoming software upgrade is to put in mildly as the world’s second-most valuable blockchain by market cap looks set to make history in an ambitious move to “proof-of-stake.”

For the uninitiated, blockchains are typically secured using a “proof-of-work” mechanism that basically trades computing power and electricity for mining rewards in that blockchain’s native cryptocurrency.

Proof-of-work has long been criticized for being a wasteful use of energy, which is where proof-of-stake comes in, which allows “stakers” with existing pools of a blockchain’s cryptocurrency, to use those pools to validate transactions and secure the blockchain.

Ethereum’s shift to proof-of-stake, which would also facilitate a higher throughput of transactions and dramatically increase speed, has been dubbed the “Merge.”

Initially scheduled for rollout somewhere in the second half of this year, one of its leading software developers has now said that it will be completed several months after June, establishing a possible timeline for a shift that has been years in the making.

To be sure, upgrading decentralized software is anything but straightforward and significantly, Ethereum passed another battery of major tests on Monday, including a stress test of the upcoming upgrade.

The Merge has been a major factor in Ether’s outperformance against Bitcoin over in mid-March, when Ethereum passed another key test of its software, while Bitcoin has remained more susceptible to macro factors.

Year-to-date however, Ether has fallen around 18%, while Bitcoin has shed 14%.

Cryptocurrency miners who are continuing to mine Ether are hoping for further delays to the Merge, to continue profiting from mining, but some have already moved off to secure other blockchains.

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