Markets doubt the Fed, as stocks sell off

It’s been an inauspicious start to the second quarter for global stocks, after a stunning rally in the first three months of the year. The markets are contending with high valuations, second thoughts about interest rate cuts, high commodity prices and some key economic data releases coming up later this week. These factors mean that equities are struggling to build on the strong gains of last quarter, Asian stocks are lower across the board, European stocks have opened lower on Wednesday and US stocks fell sharply on Tuesday.

The FTSE 100’s time to shine

The FTSE 100 had a day of two halves on Tuesday. It surged to a record above 8,000 before selling off later in the session along with other global indices. However, it was the strongest performer in the European space, and after a lackluster performance for the UK index in Q1, now might be the time for the FTSE 100 to play catch up. Risk sentiment is shaky at the start of Q2, and this is perfect for an index like the FTSE 100 that has defensive qualities. As other indices get weighed down by their growth stocks that suffer when rate cuts are priced out of the market, the FTSE 100’s lack of exposure to growth works in its favour. Added to that, the oil price is surging. Brent crude is now less than $1 away from $90 per barrel and is at its highest level since the end of October. The energy sector was higher by more than 3% on Tuesday, as the index broke above a fresh record high. The rally was led by Rio Tinto, Shell and Anglo American, as miners and oil companies dominated. BP was also a top performer and rose to its highest level since October.

While the focus remains on the US rate outlook and high commodity prices, this could be the time for the FTSE 100 to shine.

Gold continues to be in demand, but warning signs are flashing

Gold reached another record high on Wednesday at $2,288 per ounce, before pulling back. The gold price has helped to drag up the price of silver, which also rose to a 2-year high. Gold is higher by 11% so far this year, and whether or not the rally continues could depend on what Fed chair Powell has to say later on Wednesday when he speaks at Stanford. An update on his policy outlook will be an important driver for stocks and commodities thi week. The driver of the gold price appears to be twofold: 1, concerns that three rate cuts are too much, as growth remains robust and inflation may not be quelled, and 2, geopolitical tensions as Iran and Israel tensions rise. Thus, at this stage it is hard to see the gold price coming under severe downward pressure, but we would point out that open interest on gold contracts appears to have peaked and the gold price is now 15% above its 200-day sma. This suggest that it is at extreme levels and could be due a pullback.

Market’s US rate outlook now more hawkish than Fed’s

The near-term catalyst for markets will be comments from Fed chair Powell on Wednesday, which will give the market an update on his policy outlook, and the non-farm payrolls report for the US that will be released on Friday. As we lead up to Friday’s data, a strange dynamic is going on with interest rates. Market expectations for the first US rate cut have been pushed back to September, with less than 3 rate cuts priced in for 2024 as a whole. This is at odds with the Fed’s own view, the March Dot Plot showed the median expectation was for 3 rate cuts this year. The recalibration of rate cut expectations from the Fed comes even though two Fed officials have come out and said that three rate cuts still seem likely this year. Mary Daly and Loretta Meester spoke on Tuesday, however, this failed to shift the dial for markets. Investors may prefer to wait for Powell’s speech later and Wednesday’s data including the ADP employment report and the ISM services survey for March, before deciding if they will put faith in the Fed’s 3 rate cuts for 2024 view. Market expectations for rate cuts have been extremely fluid in recent months, it wasn’t that long ago that the markets were looking for a 6/7 rate cuts this year.

Asian stocks and Yuan struggle

Elsewhere, the strongest earthquake in 25 years has hit Taiwan. Asian stocks are lower; however, the Taiwan index has mostly shrugged off the news about this natural disaster, and is down 0.6%, and is one of the better performers in the Asian equity space on Wednesday. The Hang Seng is lower by more than 1% on Wednesday and the yuan is also at the lower end of its trading band. Investors seem to be shunning the better Caixin PMI data for March, which saw increases for both the manufacturing and services sectors suggesting that there are green shoots for the Chinese economy. There are concerns that the Chinese authorities are willing to use a weaker yuan to help revive growth rather than add stimulus to the economy. Thus, a weaker yuan could knock sentiment towards Asian shares this week. The risk is that the yuan continues to come under downward pressure as the USD moves towards a 5-month high as the market reduces its expectations about US interest rate cuts for this year. Thus, it could be a bumpy time for the Asian equity space.