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Divided Bank of England (BOE) Set to Vote on Interest Rates This Week

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The Bank of England (BOE) will release its August interest rate decision on Thursday amid growing dissent within its own ranks. Although economists expect the Bank’s Monetary Policy Committee (MPC) to bypass a rate hike, the real story is likely to be how many members vote for one anyway.

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MPC Revolt

The BOE appears to be at odds about what to do with monetary policy. This internal division was evident back in June when three Committee members voted to raise the benchmark interest rate. They were defeated by the five votes cast in favour of keeping policy on hold.

MPC members Michael Saunders and Ian McCafferty joined Kristin Forbes – the previous meeting’s sole dissenter – in voting for a quarter-point rate hike in June.

About a week after the vote, the Bank’s chief economist Andy Haldane said he will likely back interest rates increases later this year.

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Brexit Risks Abating?

The BOE wasted little time slashing interest rates and expanding its bond-buying program after the June 2016 Brexit vote. Faced with political uncertainty and a grim economic outlook, Committee members lowered the overnight rate to a record low of 0.25%. It was the first rate cut since the financial crisis.

At the same time, policymakers warned that the U.K. will likely overshoot its inflation target – something they could tolerate in the short run.

But in the year since the referendum, the U.K. economy has performed fairly well. GDP is still growing – despite a recent cool down – and employment is rising steadily. What’s more, Prime Minister Theresa May appears to be softening her stance on a ‘hard Brexit’ following the disastrous election campaign.

Markets Await Decision

Investors are firmly looking to Thursday’s rate decision for big movements in the currency markets. A repeat performance of the June vote could trigger fresh gains for the British pound, which recently hit 11-month highs. Analysts say the pound is due for a large jump if more than two members vote to raise interest rates.

Sterling last traded above 1.32 U.S.

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Market Overview

Week In Review: Stocks Take-Off Along with Bitcoin and the Dollar

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Stocks, bitcoin and the dollar are seeing green this week, with momentum hard to stop thanks to a multitude of favorable developments in the global financial markets.

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Wall Street’s Rally Extends to Six Weeks

U.S. stocks ended in record territory on Friday, with the Dow, Nasdaq and S&P 500 setting fresh highs. Upbeat earnings and progress on the political front have been the main catalysts behind the recent run of gains.

The Dow Jones Industrial Average rose 0.7% on Friday, extending its weekly rally to 2%. The blue-chip index has gained 18% since Jan. 1.

The Nasdaq Composite Index on Friday produced its 62nd all-time for the year, on par with the 1999 tech bubble. The S&P 500 Index also printed fresh records Friday for the 49th time this year. According to Bloomberg, that rate has been eclipsed five times since 1946.

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A measure of 30-day volatility known as the CBOE VIX settled in the single digits Friday. Investors have been net short volatility all year long.

The VIX has traded in the 9s for the better part of the month. That’s less than half of its historic mean.

Corporate Earnings Mostly Positive

Several Dow Jones blue chips reported earnings this week, with the likes of UnitedHealth (UNH) and Goldman Sachs (GS) beating forecasts. The broader S&P 500 is on track for another quarter of year-over-year earnings growth, according to FactSet.

The financial researcher says 17% of S&P 500 companies have reported earnings through Friday. Their blended earnings growth is 1.7%. Six sectors have contributed to the gains, with energy leading the way.

Dollar Gains Traction

The U.S. dollar index (DXY) rose half a percent Friday en route to two-week highs after Republican senators approved a budget blueprint that paves the way for President Trump’s tax overhaul. Lawmakers voted along party lines, with 51 GOP Senators backing the budget.

The DXY dollar basket finished the week at 93.70, having gained in five of the last seven sessions. The greenback rose to more than three-month highs against the yen. It also jumped more than 1% against the Canadian dollar Friday to reach the highest level since August.

A stronger dollar also weighed on commodities, which are denominated in the U.S. currency. U.S. West Texas Intermediate (WTI) crude futures finished higher for the week, but were knocked off multi-week highs.

Precious metals were among the biggest losers this week, with gold futures shedding more than $24 to settle at $1,280.50 a troy ounce. That’s the lowest settlement in two weeks on the Comex division of the New York Mercantile Exchange.

Silver futures also sold off 1.9% to $17.08 a troy ounce.

Bitcoin Reaches New Milestone

Bitcoin surpassed its altcoin competitors this week by posting fresh all-time highs. The world’s no. 1 blockchain asset briefly rose above $6,000 on Friday, bringing its total market cap to $100.8 billion. If bitcoin were a stock, it would be more valuable than Goldman Sachs and Netflix.

Like prior rallies, there was no immediate explanation for bitcoin’s massive appreciation. Investors continue buying the dips as bullish sentiment extends globally.

The broader cryptocurrency market didn’t participate in bitcoin’s rally on Friday. The asset class is collectively valued at over $173 billion, according to CoinMarketCap.

The Week Ahead

Economic data are back in focus next week, headlined by U.S. durable goods orders, U.K. GDP and a slew of PMI reports. Corporate earnings from the S&P 500 are also set to continue all week.

On the policy front, the European Central Bank and Bank of Canada are scheduled to deliver interest rate decisions. No change on either front is expected.

The outcome of Japan’s forthcoming election will also be in the spotlight. Prime Minister Shinzo Abe is expected to win big in the Oct. 22 vote.

Featured image courtesy of Shutterstock. 

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Analysis

Will Crude Oil Reach $68 a Barrel in 2018?

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Crude oil prices are likely to climb close to $68 per barrel mark in 2018. We believe that oil supply will be hit due to a few geopolitical issues if they play out as we expect. Additionally, though high crude prices will be a strong incentive for the shale oil drillers to pump more, their increase is unlikely to tilt the deficit into oversupply.

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Key observations

  1. The OPEC production cut is tilting the crude oil markets to a balance
  2. Rise in the shale oil production is unlikely to equal the increase in demand in 2018
  3. The geopolitical issues can tilt the markets into a deficit
  4. If crude oil breaks out of $55 per barrel, a move to $68 is likely

What are the current market conditions?

OPEC oil production cuts

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The November 2016 production cut by OPEC and its allies is helping the market stabilize. The US crude stockpiles have been decreasing over the past few months, which indicates that the OPEC cuts are having their desired effect, albeit slowly.

The stockpiles in the Organisation for Economic Co-operation and Development (OECD) nations is down to just under 3 billion barrels, which is roughly 171 million barrels above the 5-year average. The OPEC wants to bring the inventory levels below the 5-year average.

Reports suggest that the OPEC and its allies will extend the deal, which is set to expire in March 2018 by another 9-months. However, the oil cartel is unlikely to deepen the cuts. In the September quarter, it had produced 32.9 million barrels per day (bpd), as against 33.4 million bpd production in November 2016, prior to the production cut agreement.

In the fourth quarter of this year, the OPEC production is expected to further decline to 32.7 million bpd.

US shale oil production

The main threat to any recovery in crude oil prices is the ever-increasing production of the US shale oil drillers. US crude oil production, which averaged about 9.2 million bpd in the first quarter of this year has increased to 9.56 million bpd by the third-quarter.

The US Energy Information Administration (EIA) expects the average US crude oil production to increase to 9.9 million bpd in 2018, compared to 9.2 million bpd in 2017. That is an addition of 700,000 bpd of supply.

On the other hand, Investment bank Tudor, Pickering, Holt & Co (TPH) expects US crude oil production to reach 10.2 million barrels in 2018.

So, on an average, crude oil production by the shale oil drillers is expected to increase by 700,000 bpd to 1 million bpd.

Demand increase in 2018

The global economy is growing at a decent pace, which is expected to increase the demand for crude oil. The US EIA expects the global demand to increase by 1.6 million bpd in 2018.

Therefore, with everything else being equal, this will lead to a faster reduction in crude oil inventory and an improvement in sentiment, but not a large increase in price.

So, why do we expect crude oil prices to increase next year?

What are the events that have changed in the recent past that warrant a change in our view?

For the past two years, oil prices have not responded to geopolitical tensions because of the supply glut.

However, next year, when the markets are in a balance, any geopolitical event that can have an effect on the supply side will tilt the market to a deficit, resulting in a rally in oil prices. What are these events?

The Iran sanctions

President Donald Trump has been a critic of the deal between the US and Iran, which led to lifting of sanctions on the Islamic nation. The deal is called the Joint Comprehensive Plan of Action (JCPOA). As a result of this deal, Iran was able to resume its exports, which have skyrocketed from about 1 million bpd in 2013 to about 2.3 million bpd in September 2017.

President Trump decertified the deal on October 13 but has still not quit the deal. He wants the deal to be renegotiated, however, the remaining countries who were party to the deal and Iran are unwilling to do so.

This creates a tension between the US and Iran. Chances are that President Trump will withdraw from the deal sometime next year to fulfill his pre-election promise of ripping the deal apart.

What are the repercussions if the US quits the deal?

Presently, the EU nations are not in favor of scrapping the deal with Iran. If the US unilaterally withdraws from the deal, Iran’s exports are unlikely to have an immediate effect, until the EU decides to support it. After all, EU has been the major consumer of Iranian oil since sanctions were lifted.

However, Iran’s fields are aging. They need fresh investments to keep the oil flowing at the current rate. If the US quits the deal, it is unlikely that major oil companies, that have operations in the US will enter Iran. This can limit the capital flows to the Islamic nation’s oil sector.

As an immediate effect, the US sanctions will “put at risk a few hundred thousand barrels of Iranian exports,” Goldman Sachs wrote in a research note. However, these are only estimates and the real impact will be known only after the US withdraws from the deal. Due to the uncertainty, the markets are likely to boost prices higher, until it gets a clear picture of the effects.

Geopolitical tensions in the gulf can lead to a severe shortage of oil

The northern Iraq region – Kurdistan – is a semi-autonomous region, which recently declared Independence from Iraq. This has led to a conflict between the two. While the Iraqi forces have declared their victory in the important oil-rich region of Kirkuk, the victory is not final because the Kurdish army did not put up a fight initially to defend the oil-rich region.

However, both the Kurdish peshmerga and the Iraqi army have been trained by the US. Therefore, if the conflict is not resolved quickly, through a dialogue, it can turn bloody and lead to disruption of about 600,000 bpd of oil supply.

“Oil prices could spike a lot higher on this development because this time is different, after years of war in the region. The battle, finally, is for the oil, and no other reason. In other words, here we go,” John Kilduff, partner at energy-focused investment manager Again Capital, told CNBC.

Unless a permanent solution is reached, we expect these issues to linger on and again crop up in 2018, propping prices higher.

What does the chart forecast?

The WTI crude has been broadly trading in a range of $42 and $55. Oil has taken support close to the $42 levels four times in the past year and a half. Therefore, this is a strong support level and can be used as a stop loss for our positions.

On the upside, the zone between $50 and $55 has been a strong resistance. Oil has struggled to breakout of this zone. However, if any geopolitical event triggers a breakout above $55, a rally to $68 levels is likely, which is the minimum target objective of a breakout from the range.

How can we benefit, if crude rallies according to our expectations?

The best way to benefit from the rise in crude oil is to trade the oil futures, but due to their volatility, it is not advisable to hold it for the long-term.

The oil-based ETFs can offer an opportunity to take a position in oil. Individual energy stocks are also another means of benefitting from a rally in crude oil.

We shall soon identify the best oil-based ETF and stocks that can offer good returns in 2018.

Risk to our analysis

Our analysis is based on the assumption that the existing geopolitical issues are unlikely to be sorted out within the next year. However, a good dialogue can easily put an end to these, thereby invalidating any risk-premium to crude oil.

Also, consistent high prices above $50 can increase the US shale oil production, much higher than the currently anticipated levels. This will prevent the markets from balancing out.

Due to infighting among its members, the OPEC and its allies can opt out of the production cut deal,  which will boost supply and can lead to a crash in crude oil prices.

Featured image courtesy of Shutterstock. 

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Analysis

Daily Analysis: Stocks Shoot for the Moon as Senate Passes Budget

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Friday Market Recap

Asset Current Value Daily Change
S&P 500 2574 0.53%
DAX 12991 0.05%
WTI Crude Oil 51.60 0.25%
GOLD 1283.00 -0.49%
Bitcoin 6038 6.40%
EUR/USD 1.1776 -0.64%

Financial markets got very active today thanks to the US Senate’s decision to pass the 2018 budget, paving the way for the tax reform plan that’s been welcomed by investors in recent weeks. The Dollar, equities, and Treasury yields all got substantially higher with the Dow and the S&P 500 scoring yet another all-time high. The NASDAQ and the Russell 2000 failed to follow the former benchmarks to record highs, but the short-term rally is still definitely intact, despite the overbought readings and the overvaluation issues.

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Dow 30, Daily Chart Analysis

Forex markets were also very active as the Dollar cruised higher against all of its major counterparts, with the exception of the Great British Pound that rebounded strongly after the optimistic words of Angela Merkel regarding the Brexit process. The New Zealand Dollar continued yesterday’s negative trend, while the Canadian Dollar was also hit hard amid the early decline in the price of oil and the negative economic surprises from the country.

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Gold is down yet again, as it failed to reclaim the $1300 level amid the improved global sentiment that also weighed on the Japanese Yen as well. The Yen’s weakness helped the Nikkei to another two-decade high, as the USD/JPY pair surged to 113.50 for the first time since July.

USD/JPY, 4-Hour Chart Analysis

Cryptocurrencies

Bitcoin’s new all-time high made headlines in the segment today, as the most valuable coin surged past $6000 for the first time ever, even as the currency traded as low as $5100 just a few days ago. BTC also reached $100 billion in market cap, and the coin accounts for more than 57% of the total value of the crypto segment.

The other majors are virtually unchanged despite Bitcoin’s rise, with only IOTA losing significant ground and Ripple trading in a volatile fashion after its crazy week. Litecoin and Monero also performed relatively well, while Ethereum got stuck below the $315 line yet again, and NEO finally settled down, although it continues to trade below the crucial $30 level.

BTC/USD, 4-Hour Chart Analysis

Key Economic Releases on Friday

Time, CET Country Release Actual Expected Previous
14:30 CANADA CPI 0.2% 0.3% 0.1%
14:30 CANADA Core Retail Sales -0.7% 0.3% 0.2%
16:00 US Existing Home Sales 5.39 mill 5.32 mill 5.35 mill

Key Economic Releases on Monday

Time, CET Country Release Expected Previous
14:30 CANADA Wholesale Sales 1.1% 1.5%

Featured image from Shutterstock

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