Oil tears higher as China trumps the US on infrastructure spending

The big news over the weekend was a Chinese government summit that announced the new “Silk Road” project, which aims to forge peace, inclusiveness and free trade across the world. China has pledged $124bn in infrastructure spending to bring this into action, and markets are cheering Chinese largesse, with Brent crude rising $1 on the back of this news at the start of the week.

China’s spending pledge has underpinned risk sentiment more generally this morning, with European equities opening higher and US futures pointing to a stronger open on Wall Street. But, the main story of the day is the commodity market as the oil price rises, dragging up other commodity prices including Nymex gasoline, which is up 2%, Nymex heating oil up 2.16%, and ICE gasoil up 2.28%. This is also having a knock-on affect on the commodity currencies, with the Cad, AUD, NZD and NOK, the top performers in the FX space this morning.

North Korea, something to worry about for the yen

When oil rises and China opens its cheque book, this helps to lift risk sentiment and act as a soothing balm even though geopolitical risks are rising after frequent cyber attacks all over the world and North Korea tested its most advanced missile over the weekend. Credit Suisse’s fear barometer us on the rise again, but risky assets don’t seem to care. However, the North Korea missile incident is worth noting, the missile flew some 700km, and reached an altitude of 2000km, which should send shudders down the spines of Japan and South Korea. The yen is weaker today, while the South Korean won is rising against the dollar, possibly due to an easing of the domestic political situation.

US rate hikes may not boost the dollar

The other big theme in the market at the start of the week continues to be expectations that the Fed will hike rates next month, even though US CPI data was weaker than expected. The CME Fedwatch tool is now predicting a 78.5% chance of a rate hike next month, while the Fed funds futures market is pricing in a 90% chance of a hike. An interesting disconnect has arisen: US rate hike expectations appear to be barrelling ahead of US economic data and the dollar, which is weaker across the board today, and the dollar index has fallen below its 200-day sma. This suggests that the Fed may normalise interest rates even if the economic data goes through a rough patch. It also suggests that the prospect of rate hikes to bring interest rates back to a normal level may not lead to a surge in the buck. Instead, Fed confidence in the US economy could boost riskier currencies at the expense of the dollar.

The market goes gaga for the euro

Looking ahead, the CFTC data for last week showed another drop in short positions for both the euro and the pound. Long positions in the euro are now at their highest level for 3 years, as the “Macron effect” boosts both Eurozone equities and the single currency. Short positions in the pound are also at their lowest level since July last year, just after the Brexit vote. What does this mean in practice? This data tends to be a bullish signal, so we could see a break of 1.10 for EURUSD, back towards the 1.1150 highs from November last year. It’s worth noting that the market is still short the pound, and we will need to see another reduction in short pound positions this week to envisage a sincere break of 1.30 in GBP/USD anytime soon.  GBP/USD has slowed to a halt as we approach this key level of resistance, suggesting that there is some hesitation to push the pound above this level. We think that this is due to technical factors, and not because of political fears, which we don’t think are impacting UK asset prices as of yet.

Ahead this week, we get key inflation data out of the UK and Europe, decent figures could help the market cross these key levels.