Markets pause for breath after Monday’s big rally

While there are plenty of reasons to be fearful, the most important point in so far as trading is concerned is that the markets have been concentrating more on the positives and less on the negative factors of late...

The markets started Tuesday’s session higher following the big rally on Monday, before easing off the highs amid profit-taking and as market participants awaited fresh direction from Wall Street again. Monday saw global stock indices soar higher in a broad-based rally as investors looked through the current economic troubles and concentrated on a number of market-friendly developments:

First it was the release of encouraging, albeit early-stage, trial data for a potential coronavirus vaccine from Moderna. The US biotech company said its vaccine boosted the immune systems of the patients to the same, or higher, levels of protection than the patients who had recovered from Covid-19. The findings raised hopes we are getting closer to finding an effective vaccine for the virus, potentially allowing the global lockdown to be fully lifted at some point down the line, even if companies such as Moderna are at early stage trials.
Sentiment was supported further by the fact reported Covid-19 death rates had fallen to their lowest levels in two months for counties such as the U.K., Italy and Spain, while the US reported its lowest death toll since the end of March.
Investors also welcomed the prospects of more stimulus after the Fed’s Chair Jay Powell had stated that the central bank was nowhere close to running out out of ammunition.
Meanwhile news of a €500 billion recovery fund for EU countries worst affected by Covid-19 was also cheered by investors. France and German leaders said the funds should be provided as grants rather than loans to national governments.

Adding to the above list of bullish catalysts, this morning’s news that the Bank of Japan has called for an unscheduled monetary policy meeting on 22 May is music to the bulls’ ears. The BoJ will discuss a possible new measure to provide funds to financial institutions.

German ZEW beats but UK jobless claims disappoint

In so far as today’s macro events are concerned, well they have been mixed. The closely-watch German ZEW survey showed a mixed picture as current conditions reading fell sharply again but more importantly the forward-looking expectations component rebounded by much more than forecast (51.0 v. 30.0 expected and 28.2 last). The ONS reported a big rise in UK jobless claims, pointing to a probable large increase in unemployment next month. Claims jumped by 856.5K in April vs 676.5K estimated.

Where do we go from here?

After the big rally on Monday it remains to be seen whether we will see new highs for the major US indices, or the sellers will get back on board at better levels.

The bulls would argue that the massive stimulus packages and pent up demand should help fuel a sharp economic recovery once more economies come back online. As a result, the rebound we are seeing now is justified and we should be more optimistic about the future path of equity prices in an environment where interest rates are almost certain to remain very low for even longer than was previously expected.

The bears, on the hand, would point to the fact valuations were already very high even before the Feb-March crash and with the markets now recovering a big chunk of those losses, the risks are now skewed to the downside again given the big jump in global unemployment and elevated risks that the recovery could take a very long time despite all the government and central bank support.

Investors must not forget that the pandemic is far from over, and the virus is still going strong in some parts of the world. In fact, Brazil registered over 13,000 cases in the past day alone. The South American country has now surpassed the UK to rank third in number of infections globally. Worryingly, there are signs that Iran is facing a second wave of virus infections as new cases have been in the risk again. What’s more, China’s north-eastern province of Jilin is becoming a hotspot for new Covid-19 infections.

So, there are plenty of reasons to be fearful. But the most important point in so far as trading is concerned is that the markets have been concentrating more on the positives and less on the negative factors of late and as such the bulls are in control of price action. They will remain in control until we have a confirmed breakdown in the current bullish structure.