Market Wrap
The SPX closed 0.4 percent lower on Tuesday ahead of the important FOMC decision tomorrow.
In our Morning Briefing we highlighted that the Bank of Japan was able to get JGB yields back under control, but in Europe spreads between German and peripheral debt continue to widen.
Eventually the ECB will be forced to act in that regard and Isabel Schnabel from the Executive Board of the Bank already warned markets today, that the central bank will not allow “disorderly market moves” to persist.
Over in the US it were also interest rates that called the shots again, with yields for 2-year notes moving eight basis points higher and 10-year yields climbing almost 11 basis points.
In order to simplify things as much as possible ahead of the Fed event, let’s focus on just the 2-year note yield:
Since the CPI print on Friday and the de facto Wall Street Journal leak on Monday of a 75 bps hike, the yield on 2-year debt exploded almost 60 basis points higher, without disrupting the market much, as the strong sell-off in equities appeared surprisingly orderly so far.
This has given Powell enough room to rise the fed funds rate by at least 75 basis points tomorrow, and maybe by even a 100 points. The markets are begging for it.
Nobody has a crystal ball, but we think chances are not bad that the first option could spark a rally into OPEX (and possibly beyond) and that the second one would hopefully not do too much damage.
The main reason for these assumptions is, that the market is sitting right above a solid support level (3700), which will provide a good amount of fuel for a potential rally, as option dealers have sold short futures to be protected against a drop below that level. In the case that volatility declines and triggers a move higher, option dealers would be forced to buy back those futures.
A secondary reason is, that the gamma profile of the implied dealer portfolio suggests that the need for delta-hedging adjustments will cease between a index level of 3600 and 3700 (see chart below/not included here).
Overall we continue to strongly believe though, that the Fed has absolutely no interest in rising equity markets and will manipulate stocks much lower in the medium term in order to combat inflation.
We therefore do not think a sustained rally is possible or allowed.
In our Morning Briefing we highlighted that the Bank of Japan was able to get JGB yields back under control, but in Europe spreads between German and peripheral debt continue to widen.
Eventually the ECB will be forced to act in that regard and Isabel Schnabel from the Executive Board of the Bank already warned markets today, that the central bank will not allow “disorderly market moves” to persist.
Over in the US it were also interest rates that called the shots again, with yields for 2-year notes moving eight basis points higher and 10-year yields climbing almost 11 basis points.
In order to simplify things as much as possible ahead of the Fed event, let’s focus on just the 2-year note yield:
Since the CPI print on Friday and the de facto Wall Street Journal leak on Monday of a 75 bps hike, the yield on 2-year debt exploded almost 60 basis points higher, without disrupting the market much, as the strong sell-off in equities appeared surprisingly orderly so far.
This has given Powell enough room to rise the fed funds rate by at least 75 basis points tomorrow, and maybe by even a 100 points. The markets are begging for it.
Nobody has a crystal ball, but we think chances are not bad that the first option could spark a rally into OPEX (and possibly beyond) and that the second one would hopefully not do too much damage.
The main reason for these assumptions is, that the market is sitting right above a solid support level (3700), which will provide a good amount of fuel for a potential rally, as option dealers have sold short futures to be protected against a drop below that level. In the case that volatility declines and triggers a move higher, option dealers would be forced to buy back those futures.
A secondary reason is, that the gamma profile of the implied dealer portfolio suggests that the need for delta-hedging adjustments will cease between a index level of 3600 and 3700 (see chart below/not included here).
Overall we continue to strongly believe though, that the Fed has absolutely no interest in rising equity markets and will manipulate stocks much lower in the medium term in order to combat inflation.
We therefore do not think a sustained rally is possible or allowed.
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