no script

Market Update: Unbothered

Written by Amelia Bourdeau
May 12, 2023
5 min read

US equity indexes were mixed on the week: S&P 500 -0.3%, NASDAQ +0.4%, and DJIA -1.1%. The BoA MOVE Index, which measures bond market volatility, is down 8 points to 120 to end the week. The VIX Index is subdued at 17.0. US equities were negatively impacted on Friday by a higher inflation expectations print (more below) and a new warning by US Treasury Secretary Yellen on the debt ceiling. Speaking to Bloomberg TV, she said that if Congress fails to raise the debt limit, then "We have to default on some obligation, whether it’s Treasuries or payments to Social Security recipients."

There is no shortage of market risks. In addition to the looming US debt ceiling, US equity valuations are high, there is US economic uncertainty in terms of both growth and inflation, regional bank turmoil that we likely have not see the last of, and geopolitical risk. While some US equity indexes were subdued on Friday, in general, they have been holding up well in the face of mounting downside risks -- seemingly unbothered.

On the data front, April CPI readings came in on expectations with both headline and core rising 0.4% m/m. The headline read slowed to 4.9% Y/Y (first sub-5% reading in two years). However, Core CPI remains stubbornly high at 5.5% Y/Y. Super core CPI managed some improvement, coming in at 5.14% Y/Y down from 5.72% Y/Y in March. University of Michigan inflation expectations ticked down for the 1 year reading and rose for the 5-10 year reading for the May preliminary result. The 1 year came in at 4.5% down from 4.6% (still high) and long term expectations rose to 3.2% (the highest reading since 2011) from 3.0%.

Fed Pricing: Fed funds futures show the peak in the terminal rate as now - in May - and have approximately 100bps of rate cuts priced in by the end of January 2024. As we have pointed out previously, this differs markedly from the Fed's own forecast which has a median fed funds rate of 5.10% through year end 2023.

Chart: University of Michigan Inflation Expectations. Long-term inflation expectations move up.

May 12 - Chart 2

Precious Metals:

DIAMINDX fell on 0.4% the week to USD 5,140 -- its lowest level since March 2021. It continues to hold above the USD 5,000 level. The near-term outlook for diamond prices is hampered by the industry's concern about the potential slowdown in US consumer spending. The US is the world's largest market for diamonds. However, a longer term view shows the scarcity of natural diamonds due to supply, which should support prices in the face of rising luxury goods demand expected from China.

A look at diamond supply: Industry experts believe that the annual recovery of natural diamonds peaked in 2005 at 177 million carats. By comparison, rough production was approximately 115 carats in 2022 and is projected to remain around that level until 2026, when supply is further reduced (BoA Equity Global Non-Ferrous Metals, Mining & Minerals Group, October 2022). According to the Natural Diamond Council, "the annual recovery of 1 carat diamonds is equivalent in volume to filling an exercise ball...the annual recovery of 5 carat diamonds and above would fill a basketball." (NDC Diamond Facts Report)

Petra Diamonds' industry overview states, "A key characteristic of diamond deposits is their scarcity, in contrast to many other commodities, and there are just 30 significant diamond mines in production today. Only seven mines in the world are considered to be Tier 1 deposits (+US$20 million Reserves). On diamond mine exploration: "The success rate in diamond exploration is estimated as less than 1% and there have been no major new finds for over 20 years." However, there will be diamond mines coming offline in the next 5-10 years which will further constrain supply.

Gold and Silver

Gold fell 0.1% on the week to USD 2,014, remaining above the psychologically important USD 2,000 level, which is support. The yellow metal has been trading choppy in reaction to both positive and negative US economic data and debt ceiling headlines. There likely has been some profit taking from gold's highs. A stronger USD this week also did not help.

In order to break above its all time high, gold needs a catalyst. However, there is no shortage of market risks, as mentioned above in the second paragraph, that could be potential candidates for safe-haven asset demand.

The World Gold Council's released ETF flow data for April. Global ETFs continued to see positive demand in April: net inflows totaled USD 824 mn and holdings increased 15t. North American funds led global inflows adding USD 984mn. Fund flows in Europe were negative, falling USD 223mn, led by Germany.

Chart: Physically-backed gold ETFs (and similar) fund flows by month (as of 30 April 2023)

May 12 - Chart 4 (1)

Silver fell 6.4% on the week to end at USD 24.02. Last week, silver reached a high of USD 26.05 and it is likely that some profit taking has occurred. On Thursday, silver broke downside support at USD 25.00, which was a large area of consolidation. That downside break hastened its fall into Friday.

Managing Director Amelia Bourdeau spoke to Complete Intelligence on Friday about the diamond commodity and gold outlooks in this discussion starting at 16:50 minutes in and global macro risk at 49:00 minutes in.

Chart: USD (DXY Index, inverted), Gold, and Silver. Silver's decline is outsized compared to the USD's move.

May 12 - Chart 1

USD The USD (DXY Index) rose 1.4% on the week to 102.67. The DXY Index broke above 102.50 on Friday and out of the tight 102.40-101.00 range it has been trading in since mid-April. The catalyst for the upside break was Friday's higher UMich long-term inflation expectation read and a debt ceiling warning by Treasury Secretary Yellen.

The USD gained vs all G10 currencies this week. EURUSD, the DXY's largest component, was on its backfoot, falling 1.5% on the week. EURUSD ended at 1.0851, having broke support at 1.0900 on Friday. The next support is 1.0800. JPY was the best performing currency within the G10 vs USD. JPY fell only 0.6% vs USD on the week - perhaps benefitting from safe haven demand also as JPY was strong vs all G10 currencies as well (on the crosses).

Chart: USDJPY vs US 2 year yield and US 10 year yield. May 12 - Chart 3

Ahead next week:

Market participants will focus on US retail sales for April. Fed President Mester (non-voter) will speak on the economic and policy outlook as will NY Fed President Williams (voter) on Tuesday. On Friday, Fed Chair Powell and former Fed Chair Bernanke will take part in a panel discussion at a Fed monetary policy research conference.

General elections in Turkey are scheduled to take place on May 14 and are seen as consequential. President Erdogan is facing his largest political challenge in two decades. As the probability of regime change has risen, market participants will be watching the result of this election.

Sign Up for Market Commentary: Weekly insights on global markets and commodities from Diamond Standard by Amelia Bourdeau

Disclaimer: This report has been prepared by the Strategy Team of Diamond Standard Inc. (“Diamond Standard”). This report, while in preparation, may have been discussed with or reviewed by persons outside of the Strategy Team, both within and outside Diamond Standard. While this report may discuss implications of legislative, regulatory and economic policy developments for industry sectors, it does not attempt to distinguish among the prospects or performance of, or provide analysis of, individual companies and does not recommend any individual security or an investment in any individual company and should not be relied upon in making investment decisions with respect to individual companies or securities.
Opinions and estimates offered constitute our judgement and are subject to change without notice, as are statements of financial market trends, which are based on current market conditions. Under no circumstances does the information contained within represent a recommendation to buy, hold or sell any security, and it should not be assumed that the transactions discussed were or will prove to be profitable.