With US equities and fixed income cash markets offline and their respective futures markets closing at 3:00am AEST, for the most part it’s been a sleepy session. The Crude market is the obvious exception, where disputes reside around the date by which the universally agreed output cuts are scaled back – Saudi and Russia want this agreement to roll on from April 2022 to end-2022. The UAE who are open to output increases at this juncture, aren't interested in an extension to the end of 2022 and as is the way with the cartel, a full agreement is required to put action in place. With the meeting called off at 01:17 AEST, crude spiked.
Much of the focus has been on the timing of a new round of talks, with the Iraqi oil minister saying he hopes to see a new meeting within 10 days – the longer we go without firm signs of a new round of talks the closer to $80 we’ll see the Crude price. The question then becomes if Crude keeps pushing towards $80, would an agreement actually be hugely bearish for the Crude market given the expected supply and demand deficit in the period ahead? If the move becomes pronounced, then the agreement could lead to collective profit taking but buyers will be keen to snap up dips.
The grave concern for Crude bulls naturally comes in the unlikely event of a genuine feeling that this disagreement leads to something more pronounced and the cartel move to a truly fractured situation - where market share and an output grab becomes a dominant theme. This dynamic would not be a one-day affair and a lack of cohesive action when spare capacity in the physical market is still elevated, would be a red rag to the shorts and it could spill over into higher volatility in other asset classes too.
With US equities closed, we haven’t seen any reaction in energy equities, but one could imagine Oil producers would be ripping on this news – our suite of Aussie energy equities should get a run today. The Crude futures curve has moved to aggressive backwardation, which is a Crude bulls dream, to hold and capture the ‘roll-down' from lower futures expiries. Petro-currencies have been mixed and while the NOK has been the place to be, the CAD and MXN have not seen the sort of positive flow we’d expect in a solid Crude spike.
All eyes on the RBA meeting
As Asia fires up and futures markets resume trading clients focus should be on crude, but also the AUD, AUS200 and interest-rate sensitive stock exposures. The RBA meeting takes place at the traditional time of 14:30 AEST, but RBA gov Lowe will be speaking at 16:00 AEST, seemingly a prudent move as it gives scope to clear up any misunderstandings from market participants from the RBA statement – effectively, if volatility kicks up Lowe can settle things down.
Looking at the options market AUDUSD overnight volatility is subdued, but it’s too early to get a proper read on it at this stage. The leveraged hedge funds are net-long AUDs, while our client positioning is split evenly long and short, so there seems no clear bias from retail traders to trade this either way.
The rates markets have modestly scaled back aggressive expectations for future interest hikes, but still price in some 3 hikes by 2024. It still seems lofty, but we should see the RBA move to a far more flexible stance today and one set by the state of the economy as opposed to pure calendar-based guidance. If I had to choose, here's the call for the day.
- The 3-year bond yield curve target remains unchanged, fixed at the April 2024 maturity.
- The envelope of asset purchases (QE) will be increased by $50-75b and the pace of weekly purchases given more room to move lower – potentially taking the pace down to $4b a week (from $5b). A taper of sorts.
- We won't get any major clues on its future plans to normalise and whether it would allow cash and liquidity to leave the system whilst raising interest rates or just raise rates in isolation.
- Do they increase the tenure of future bond purchases? There’s a good chance we see this and if they do then this could have implications for the AUD.
I guess these factors when placed relative to consensus do offer upside risk to the AUD. However, given positioning and what’s already priced into the interest rates markets, not to mention the RBA’s strong desire for a lower AUD, upside in the AUD should be capped and I would use spikes into 76c as a mean reversion sell level for a short-term trade.
All-in-all, the Aussie economy is moving clearly in the right direction and with the Fed moving to a window through August-September where we get some clear signals of tapering its bond purchase program – it gives room for the RBA to lower its purchases rate and offer increased flexibility. The greater the flexibility and optimism the more hawkish the market will take it and the greater the AUD upside.