Global Markets Overview - Feb. 29, 2016

US dollar surge likely to dictate trade this week

Markets look set for a volatile week as a raft of data releases globally set markets up for a dramatic reweighting of growth expectations. The biggest story of the moment has been the far better performance of US data than the market had expected, which is seeing US dollar strength return.

Durable and capital goods orders are pointing to stability in the US manufacturing sector despite being significantly impacted by the strength of the US dollar over the past 12-18 months. But the DXY dollar index surged 0.9% on Friday after US Core (Ex-Food and Energy) PCE inflation data grew strongly in January. Core PCE had its biggest month-on-month expansion since January 2012. The probability of a Fed rate hike by the end of the year has now risen above 50% again.

There does look to be significant potential USD upside this week. The main concern for this thesis is the terrible Markit services flash estimate last week, which if borne out in the final number would indicate that weakness in the manufacturing part of the economy was spilling over into the much bigger services sector.

A significant repricing of the US dollar holds a lot of uncertainty for markets this week. While a resilient and healthy US economy is clearly a good thing for global growth, a significant rise in the USD will put a lot of downward pressure on commodity prices. The biggest concern for markets on this front is how much it affects the oil price, which has had an incredible influence on market direction of late. The WTI oil price surged up to US$34.70 on Friday before dropping 5% in the wake of the PCE release. The drop in the oil price did look to push US markets down ahead of the close on Friday , and the prospect of decent US data this week could actually weigh on markets through the drop in the oil price.

DXY dollar index could well be retesting 100 with a batch of strong US data this week

The iron ore price cumulatively lost 6.5% on Thursday and Friday , and further USD strength is likely to see this continue. The Aussie dollar lost 1.35% immediately following the PCE release, and the potential for an increasingly dovish Reserve Bank of Australia statement and rising USD make further downside pressures likely this week.

This scenario is setting the energy and materials sectors up for a difficult week, as many commodity prices weaken due to their US dollar denominations. The big question for the ASX is whether the very compelling yields offered by the banks can entice investors back into the fray in the financials sector. Unfortunately, this has generally not been true, as prior commodity price selloffs have heightened concerns over rising non-performing loans from the energy and materials space.

It has been a decent earnings season for the ASX with 53% of companies beating earnings estimates and 60% beating sales estimates. But concerns about the outlook have held the ASX back from breaking above the 5000 level. There is clearly some potential upside to the ASX from the resilience in earnings if concerns around the global outlook begin to dissipate.

A best-case scenario for this week would be resilience in commodity prices in the face of stronger US data, but given the erratic moves in oil lately it looks unlikely.

ANGUS NICHOLSON
Market Analyst
IG, Level 15, 55 Collins street, Melbourne VIC 3000
D: +610398601747 | T: +61398601711
www.ig.com

IG Markets

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