Lessons of Chinese or the patient is still under control

American bullish market has lingered and fundamental indicators do not give any hope for the growth of shares in the nearest 3-5 years
Last week clearly showed inefficiency of Western measures for supporting economy in case of need. A "mini-crash" that occurred last Monday caused not only an interruption of the American stock market, but also a monthly range of currency movement in a couple of hours. The risk has remained the main driver of trading in the period of crisis trading and stop hunting. We shouldn't wait for imminent death of the Chinese economy; however, losses should be counted.

Again, China delivers an ultimatum to the world. Yuan was devalued, rates were cut down, obligatory reservation ratios were reduced, and liquidity was added to the economy. CB of China officially blamed FRS for the downfall of its stock market, and is going to continue selling US state treasury bills monthly for an amount of 40 billion until the end of the year for increase of currency reserves. It is quantitative easing in its pure form. The Chinese stock market hardly survived the largest daily downfall. All the currencies of the third world countries went into an abrupt spin. Prices for raw materials fell to their 16 year-old levels. German DAX fell by more than 20%, American shares, after fluctuations, lost in average 24%. The global stock markets experienced the most rapid downfall since 2011, and Europe did not see anything like that even in the period of its darkest crisis. After the previous devaluation of yuan, the global markets lost around 5 trn dollars of their own capital. For the whole week, Chinese interventions and drastic adjustments produced new bouts of panic, and officials from the Federal Reserve put oil into fire with their comments. Many investors preferred to take their money and leave practically all classes of assets. In general, the market somewhat calmed down, but fears have remained.

In America:

  • Since last Wednesday, the American stock market turned upward and has been recovering quite rapidly;
  • Revised data on US GDP for the second quarter are better than expected;
  • Again, statements made by influential officials from the Federal Reserve tried to persuade everybody of rate increase, but 30-day rates futures have not responded, the market does not believe them;
  • NFP - the last one before FRS meeting, the growth of the number of jobs above 200K with decline of unemployment rate to 5.2% or below will play towards the increase of FRS rate; a significant growth of salaries will strengthen the belief for return of inflation to 2% and that also increases chances for the rates;
  • To have NFP forecasts, let's turn attention to employment components in ISM manufacturing and services.

Theoretically, everything is logical. American bullish market has lingered and fundamental indicators do not give any hope for the growth of shares in the nearest 3-5 years, the market has long been restrained due to redemption of their own shares by companies. Inexpensive loans and continuous Chinese expansion have been feeding the global economy for many years. The Chinese panic has served everybody a dangerous lesson, but it is even more difficult to make the right conclusions. It is too dangerous for FRS to increase the rate in September, and there is no sense in playing games with the market. The money that flees developing markets to American consumers today will lead to the growth of crediting on the housing market and traditional distortions in the economy. In order to maintain demand in Europe and Japan, it will also be necessary to increase stimulation; however, monetary measures are only the beginning of journey, the growth of productivity will be the next stage. As a stimulus, the USA and Eurozone can choose the so called "helicopter money", since it can reduce the financial loan and can support economic growth.

Everything is traditional in Europe:

  • EUR has shown the most clear risk-related movement as the main funding asset. The current volatility in it continues to decrease. It is interesting that the growth of volatility last week took place under abnormal growth of volumes, which proves active operation of large players;
  • Despite the fact, that the volume of futures trading in euros at CME reached an incredible number of 578 thou. contracts, there is no clear direction in the price, that is, even among market-makers, there is no common opinion now regarding the nearest perspectives of the leading regional economies. And that means that any negative from Eurozone will actively trigger further decline;
  • July retail sales data in Germany published on Monday turned out to be better than predicted, to which speculators responded with purchases of euros that were "sold" there by a large European macro-fund;
  • At the press-conference after ECB meeting, it will be very difficult for Mario Draghi to persuade financial partners of existence of effective measures in the event of further deterioration. ECB will have to decrease inflation forecasts and consider an adjustment of asset purchase program (increase of periods, the volume of monthly purchase and extension of asset list). It is not improbable that there is a positive solution, but it is hardly enough that it will be, as well as the possible reduction of deposit rate, announced on September 3;
  • Let's not lose Greece from the focus - if Draghi allows acceptance of Greek state treasury bills for pledge prior to election in Greece on September 20 and access of Greek banks to participation in ECB QE program until the first assessment of the aid program, we will have to wait for the growth of EUR/USD.

Traditionally in EUR: the range of levels 1.1000-1.1400 is very vague, which allows its active trade. There are still purchase orders at 1.1200, but the price is not going there yet. Bids at 1.1280-1.1300 were consumed by the Tuesday morning movement, more or less large ones were observed at 1.1400. A strong support in the range 1.1250-1.1200-1.1160 remains, low protection of market-makers is seen only at 1.1027, and the upper - at 1.1590. The intraday resistance - 1.1365-1.1420. The following can be recommended: short-term sales only after return of the pair above 1.1340. Penetration above 1.1360 will show growth sentiment to zone 1.1400-1.1420. The price picture is very fragile, it is necessary to watch the volumes and the news.

Author: Lachlan Patel,
ForexChief Currency strategist