Why risk sentiment may improve at the end of this week
The Covid recovery rally for risky assets faded at the start of this week. Volatility has started to creep higher, and US markets fell sharply on Wednesday, with the S&P 500 down 1.75%. As we have said in previous notes, the main driver of this decline appears to be another wave of infections in some Asian countries and in Germany, which could derail the easing of lockdown restrictions around the world, and a grim assessment of the US economic recovery by Fed chair Jerome Powell. However, could economic data releases scheduled for Thursday and Friday help to boost fragile market sentiment?
Why the Eurozone could weather the pandemic better than other countries, just not in Q1
The economic data that will be key to watch includes European inflation rates, US initial jobless claims, Eurozone GDP for Q1 and US retail sales for April. One can assume that Eurozone Q1 GDP will be fairly dismal, analysts are expecting a 3.8% decline in the first quarter. The larger decline in Eurozone GDP for the first quarter, relative to the 2% decline for the UK, is largely down to the differing make-up of the UK and German economies, in particular. Germany has a large manufacturing base, which will have been hit when China and other parts of Asia went into lockdown early on in Q1. Thus, the larger decline in Eurozone GDP for Q1 may not be repeated in Q2, and we could see a larger economic contraction for the UK relative to Germany later this year. Thus, even if we do see a sharp decline in Eurozone GDP for the first quarter, we don’t think that this will disrupt the recent recovery in EUR/GBP. This pair has bounced this week and is 120 points higher so far; 0.8900 is the next key level to watch, after that traders may target a break of 0.90, although this is likely to be a major level of resistance. EUR/USD remains in the doldrums, although this is partly down to the US dollar’s safe haven status, which has meant that dollars remain in demand during this crisis. Also, the larger size of the ECB’s QE programme relative to the US’s continues to weigh on EUR/USD.
Signs that US layoffs have peaked could give markets something to cheer about
US jobless claims that are released later today are also worth watching. These have been a key economic data point during the pandemic due to the huge increase in claims. Data for last week is expected to show that 25mn Americans are continuing to claim jobless benefit, that is up from 22.6mn for the week prior. The pace of new jobless claims are expected to slow to 2.5mn for last week, relative to 3.1mn for the week prior. The 4-week moving average of jobless claims is also worth watching, as this smooths out the data and helps us to see any trends that are emerging. After a sharp increase in jobless claims from March 19th, the peak may have been reached around the 23rdApril, as claims have dropped off since then. On April 24th, the 4-week moving average of claims stood at 5.03mn, it fell to 4.1mn on May 1st, and it is expected to fall further for 8thMay. If it seems that the bulk of US layoffs have already happened, and if jobless claims surprise to the downside then this could be some welcome economic news that may boost sentiment towards global risky assets later on Thursday.
At this time of major uncertainty, any sign that the US economy is easing the rate of staff layoffs is likely to be welcome. Jobless claims are relatively up to date compared to other data points, and as such can be a better indicator of the state of the US economy. As more states in the US open up and ease their lockdowns, this may be enough to halt the sharp slide in US unemployment, and we may see jobs numbers rise from here. That will be the hope, and if that happens then we could see a sustained recovery in financial markets. Due to this, we believe that today’s jobless figures could be more important than Friday’s US retail sales figures for April, which are expected to show an 8.9% decline in sales excluding autos.
Why it is worth watching gold
If risk sentiment starts to improve towards the end of the week then we will be watching gold closely. Typically, when risk sentiment improves then safe havens like gold will fall, however these are not normal times. Gold had been rising in unison with stocks in recent weeks, as global indices embarked on a recovery rally. Thus, if we see risk assets rise in the coming days then we could see the gold price also rise. We think a breach of $1,800 per ounce is a matter of when, not if, as the deluge of extremely lose monetary policy from global central bankers will keep gold in demand for the long term.
To conclude, economic data may boost risk sentiment at the end of this week, although it is worth remembering that the longer-term direction of financial markets remains unclear due to the prospect of a second wave of coronavirus infections and further lockdowns. Due to this, we expect any increase in global stock markets may be accompanied by a similar rise in the price of gold.