18th May - Reality Check

Geopolitics

The Trump-Xi summit ended on Friday with both sides making positive noises, but seemingly with not much of note to announce. We heard claims from the US that China would be helping with Iran and would not supply military equipment, but this was notably absent from any Chinese remarks on the talks. The implication being that nothing has been formally agreed on the subject, which gave the market nothing but uncertainty. Later on Friday, Trump's rhetoric hardened in an interview with Fox News, where he stated he was losing patience with Tehran and reiterated that they needed to make a deal.

Forex

Friday saw further support for the USD, gaining against all currencies on the day and seeing the DXY close past 99.000 for the first time since the start of April. It is now pushing on towards the key level of 100.000, where we have seen a number of rejections in the past. This time, however, we are seeing a very different FOMC story with rate cuts all but ruled out and rate hikes being priced in by some traders. The uncertainty and risk-off sentiment surrounding Iran at present is only adding to the demand for the USD, meaning unless we see a significant change in the Iran war and consequently a drop in oil prices, we can expect to see a stronger USD for longer. The key 100.000 level seems likely to be broken sooner rather than later. I would be surprised if the key psychological level gave more than a cursory resistance considering the fundamental factors driving USD strength.

On the back of the USD strength, we are once again seeing the USD/JPY get close to the key 160.000 level that is so talked about. The pair touched 159.000 this morning and is on the back of five consecutive positive days. The fundamentals are all lining up to push the pair further northwards, with elevated oil prices further pressuring the Japanese economy. Once we reach the 160.000 level, will the BoJ intervene again? If they do, will they go larger than before, and for longer? If they do, unless market conditions change, what will stop the currency from just retracing back north after the intervention once again? These are all key questions for the BoJ to grapple with and will be a fascinating market to keep an eye on.

The GBP continued to struggle on Friday amidst continued political uncertainty around the future of the Prime Minister. We have seen gilt yields rise even higher this morning, currently sitting at around 5.85%, the highest since May 1998. We are seeing a lot of money being moved out of the UK currency. Unless we see news that removes the uncertainty around the PM, the GBP will continue to be under pressure for this week at least.

The EUR has also lost ground to the USD but has fared significantly better than the GBP. The ECB has been making hawkish noises over the past week to signal they are willing to raise rates if needed, which helped to stem the bleeding a little against the USD. Against the GBP, it strengthened significantly last week and could see this continue this week as the UK continues to be surrounded by uncertainty.

Among commodity currencies, the AUD basket saw a significant pullback on Friday, driven by a few different reasons. The broad move towards risk-off on Friday hurt the AUD, which was compounded by the fact that risk-off in today's environment also means drops in precious metal prices. As Australia is a large exporter of precious metals, moves towards risk-off hit the AUD doubly hard. AUD has also been trading at very elevated levels recently due to the rate differential it has with all other G10 currencies, so there is a strong chance that the lack of news from the Trump-Xi summit caused some larger traders to take some of their profits off the table yesterday. All in all, it led to a full 1% drop in the AUD/USD market on Friday. The pair has fallen into a key level of support and still has the rate differential in the AUD's favor, so it will be interesting to see how the pair reacts at the start of this week. Could some positive news from Iran give markets the confidence to move back to risk-on and push AUD back north, or will possible escalation continue to kill off demand for risk-on currencies until the situation improves?

Indices

Friday saw the worst day for the US indices as a whole since the beginning of the monster rally we have seen over the past month and a half. All 3 major US indices fell by at least 1%, while the FTSE100 fell by 1.5% and the Nikkei by a full 2%. This was seemingly caused largely by the lack of positive news from the Trump-Xi summit, something that was always at risk given how overly optimistic the market had been leading up to it. It also seems that the concerns around bond yields, inflation, and rate hikes could finally be catching up to the indices.

This week we see earnings from Walmart and Target, bricks-and-mortar businesses that will give us another layer of understanding of how the war is affecting consumer demand in the US outside of the mega tech companies. We will also be able to see the fallout from the summit and whether Friday was a blip or the beginning of what may be a much-needed correction.

Precious Metals

Thanks to renewed uncertainty and no real news from China about Iran, precious metals saw significant falls on Friday. Gold was down 2.44% to $4,545, while Silver fell 9% down to $76, wiping out all of the gains it had seen since the start of the month. The fact that rate cuts are largely off the table in the US and the strength of the USD has impacted these markets heavily, counteracting the Peru supply side shock for Silver and any safe haven demand for Gold.

Long term, the structural case is still strong for precious metals, but while the uncertainty remains around Iran and the downstream effects it is having, metals will continue to struggle to find demand. Gold is closing in on the key $4,500 level and Silver is closing in on the key $70 level. If they reach these this week, it will be very interesting to see if either metal can catch any bids or if the market sentiment will drive them through these levels and continue lower.

This Week's Key Market Drivers

• Iran - As has been the case since the beginning of the war, any news from either Iran or the US will have significant effects on all markets, so it will again be the key focus and something to make sure we stay on top of.

• UK Political situation - The uncertainty around the UK Prime Minister will continue to affect the GBP until there is a resolution. Whether Keir Starmer resigns or finds longer-term support from the Labour Party, any form of concrete decision either way will most likely be seen as a positive for the GBP and should see some demand return for the currency.

• Walmart & Target Earnings - Target releases earnings on Wednesday, while Walmart releases on Thursday before the market opens. These will be back-to-back for the market and will give a good indication as to how the non-tech US economy is coping with the ongoing energy shock.

• Oil Prices - This will continue to affect inflation across the world and is linked to the Iran situation. Higher oil prices will mean more demand for safe-haven currencies and oil-producing nations, while lower prices will benefit precious metals and energy-dependent economies.