Monetary Policy Expectations Continue to Drive the Markets

EU equities gained yesterday, as Eurozone’s manufacturing PMI hit a record high, ignoring preliminary data showing that the bloc’s headline inflation rate hit 2% in May. However, although the ISM manufacturing index also rose, Wall Street indices traded somewhat lower, with the only exception being Dow, perhaps due to some Fed officials wanting to start discussing QE tapering soon.

EU EQUITIES GAIN ON ECB VIEW, BUT US ONES SLIDE SOMEWHAT ON TAPERING CONCERNS

The dollar traded lower against most of the other G10 currencies on Tuesday and during the Asian session Wednesday. It gained only against GBP, NZD, and NOK, while it underperformed the most versus CHF, SEK, and AUD. The greenback was found virtually unchanged against JPY.

The relative weakness of the US dollar suggests that market participants traded in a risk-on fashion yesterday and today in Asia. That said, looking at the performance in the equity world, we see that this was the case only during the European session. Later, in the US, both the S&P500 and Nasdaq finished fractionally lower, with only Dow adding some gains. Today, in Asia, the picture was more mixed, with Japan’s Nikkei and South Korea’s KOSPI trading in the green, but China’s Shanghai Composite and Hong Kong’s Hang Seng drifting south.

European shares may have rebounded yesterday after Eurozone’s final manufacturing PMI for May was revised up to a record of 63.1 from 62.8. The bloc’s headline inflation surged as well, according to preliminary data for May, hitting 2.0%, which, under normal circumstances, could have raised speculation that the ECB may have to start reducing monetary policy support soon. However, with several ECB officials, including President Lagarde, highlighting that it is still too early to withdraw support and that the inflation spike may prove to be temporary, we believe that European stock traders may stay mostly focused on data pointing to a decent pace of economic comeback rather than worrying about high inflation.

The picture was similar in the US, at least data-wise, with the ISM manufacturing index climbing to 61.2 from 60.7 in the midst of high inflation. Remember that, on Friday, the core PCE index, the Fed’s favorite inflation metric, climbed to +3.1% yoy from +1.9%. However, the important differences here compared to the Eurozone are that the aforementioned consumption index is a core metric, which suggests that the inflation spike in the US may not be due to transitory factors, and that, in contrast with ECB policymakers, some Fed officials have already expressed desire to start discussing QE tapering at the upcoming meetings. Maybe that’s why not all of Wall Street’s main indices traded in the green.

As for our view, we stick to our guns that the main driver behind the broader market sentiment will continue to be rising inflation and how central banks respond to it. ECB officials have clearly pushed against the inflation-is-back narrative, which could keep European equities relatively supported, but with some Fed members eager to start discussing policy normalization, Wall Street may not perform so well. In any case, we will closely monitor upcoming speeches by Fed officials, in order to see where the majority of them stands. Today, we will get to hear from Chicago Fed President Charles Evans, Atlanta Fed President Raphael Bostic, and Fed Governor Lael Brainard. For the US equities to rebound, they may need to provide hints that they are not in a rush to start withdrawing support, even if there is discussion on the matter in the upcoming gatherings.

DJIA — TECHNICAL OUTLOOK

The Dow Jones Industrial Average index continues to trade well above a short-term tentative upside support line taken from the low of May 13th. Also, the price is still sitting above all of its EMAs on our 4-hour chart, which gives a bit of hope to the bulls. If the index continues to trade above all of those EMAs, we will aim higher.

If DJIA is able to climb back above the high of last week, at 34660, that may attract more buyers into the arena, potentially setting the stage for further advances. The price may travel to the current highest point of June, at 34849, a break of which would confirm a forthcoming higher high, possibly leading the index further north. Our next target then could be the current all-time high, at 35092.

Alternatively, a drop below the 34433 hurdle, marked by the low of May 31st, could increase Dow’s chances of correcting a bit more to the downside. The price might drift to the low of May 27th, at 34208, where DJIA may stall for a bit. However, if the bulls are still nowhere to be found, the bears could push the index lower, aiming for the 34060 level, marked by the intraday swing high of May 19th and an intraday swing low of May 20th. Slightly below it runs the aforementioned upside line, which might provide additional support.

USD/JPY — TECHNICAL OUTLOOK

Overall, USD/JPY remains within an uptrend. It continues to balance above some of its tentative upside lines, one of which is a short-term one drawn from the low of April 23rd. After a slight correction lower at the end of last week, this morning we are seeing the pair trying to make its way higher as it continues to test yesterday’s high. For now, we will take a positive approach and aim for slightly higher areas.

A strong push above yesterday’s high, at 109.70, could attract more buyers into the game, potentially setting the stage for a further upmove. USD/JPY may then travel towards the high of May 31st, at 109.93, a break of which might set the stage for a move to the 110.20 level. That level marks the highest point of May.

Alternatively, in order to shift our attention to some lower areas, a break of the aforementioned upside line is required. If such a move happens, new buyers could stay away from entering for a while, resulting in further declines for the pair. It might drift to the 108.56 hurdle, marked near the lows of May 19th and 25th, where a temporary hold-up may occur. That said, if the bears stay behind the steering wheel, they could drag USD/JPY further south, possibly aiming for the 108.33 level, marked by the lowest point of May.

AS FOR TODAY’S EVENTS

The calendar appears very light in terms of data releases. As for the speakers, apart from the Fed officials we already mentioned, we will also get to hear from ECB President Christine Lagarde, ECB Governing Council member Jens Weidmann, and BoE Governor Andrew Bailey.

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