Morning Wrap: Dow plunges 1,200 points after scorching inflation report, ASX set to plummet

US stocks were smashed after a very hot inflation report humbled optimistic investors that expected the Fed tightening cycle to soon end. All three major US benchmarks posted their biggest one day declines since June 11 2020, wiping out a combined US$1.6 trillion.

Let’s dive in.

MARKETS

It's going to be a wild day. Emotions will run high. Stay safe. Respect risk.

"Look to the 1994 cycle to understand the current one: Valuations are unlikely to rally until the Fed is done tightening and the 2-year yield starts falling," said Jurrien Timmer, Director of Global Macro at Fidelity.

Source: Fidelity

Last Thursday's Morning Wrap noted that institutional traders bought a record US$8.1bn worth of put options and less than US$1bn in calls - three times more extreme than 2008. It looks like instos were right on the money.

Source: Sentiment Trader

Bank of America's Global Fund Manager Survey flagged "super bearish" levels with cash allocations at the highest since 2001 and stock allocations at an all-time low. Taking a contrarian view only works in a bull market, notes Bianco Research President, Jim Bianco. "In a bear market, bearish sentiment goes to apocalyptic/suicidal levels ... A market falling apart this bad with high levels of bearishness strongly suggests a bear." he said.

Source: Bank of America

• All 11 US sectors declined

• Energy stocks held up the best

• Defensive sectors including Utilities, Healthcare and Staples outperformed (still very red)

• Growth-heavy sectors including Tech and Discretionary led to the downside

• 81% of US stocks fell

• 62% of US stocks trade below their 200-day moving average (54% on Tuesday, 65% a week ago)

STOCKS

• Adobe (-7.1%) was downgraded by BMO to Market Perform from Perform. The investment bank lowered its revenue estimates for 2022-23, citing concerns about Adobe’s cloud product

• Meta (-9.4%) shares tanked after a Wall Street Journal report found that Instagram users are spending less than one-tenth of the 197.8m hours TikTok users spend each day on the platform

WORLD NEWS 

• Billions in wrong-way bets poured into biggest tech ETF (Bloomberg)

• Ukrainian successes raise Russian collapse to realm of possibility (Bloomberg)

• US considers China sanctions to deter Taiwan action (Reuters)

ECONOMY

• Germany ZEW indicator for economic sentiment was -61.9 in September from -55.3 in August

  • At the beginning of the year, the index was 51.7

  • The reading is at its lowest since October 2008

• US inflation eased to 8.3% year-on-year in August from 8.5% in July

  • Missed consensus expectations of 8.1%

• US core inflation accelerated to 6.3% year-on-year in August from 5.9% in July

  • Much hotter-than-expected as consensus expected 6.0%

All things US inflation:

“... The implications are obviously bad and the knee-jerk market reactions are what one would expect. … The fact the sources of inflation were so widespread is another negative (it’s hard to pin the upside on any one category)." said Vital Knowledge.

• Owners’ equivalent rent portion of August CPI was up 6.3% year-on-year, the fastest increase since April 1986

• Food index increased 11.4% year-on-year, the largest 12-month increase since May 1979

• Energy component of the CPI print fell -5% month-on-month, the largest contraction since April 2020

As a result of the hotter-than-expected reading, current Fed rate hike probabilities for the upcoming September meeting are:

• 75 bps: 67% (91% a day ago)

• 100 bps: 33% (0% a day ago)

Interesting comments:

• “[Markets] underappreciate just how entrenched US inflation has become and the ... response that will likely be required ... While the Fed did not raise rates by 100 bps at the July meeting, contrary to our expectations, we think recent data will encourage policymakers to revisit …” said Nomura economists

• "Once inflation goes above 5%, it has never come back down without the Fed Funds Rate exceeding the CPI" said US hedge fund manager Stanley Druckenmiller

• “More granularity on the CPI MoM print from Bloomberg's ECAN function: Note the acceleration in Services Ex Energy (at the bottom), which is 56% of the CPI and accelerated from +0.198% in July to +0.328% in August. This is sticky and points to the continued breadth in inflation,” said Cameron Dawson, Chief Investment Officer at New Edge Wealth

Source: New Edge Wealth, Bloomberg

COMMODITIES

• Iron ore futures rose 0.5% to US$102.5 a tonne

  • “Chinese steel prices including those of rebar and hot-rolled coil showed signs of recovery in both the spot and futures markets over 5-9 September, as market sentiment improved with the significant pick up in steel demand,” notes Mysteel

• Oil prices whipsawed between session highs of US$95 and lows of US$91

  • “The oil market still remains tight and seems poised for further shortages as growth outlooks globally seem to be improving,” said Oanda senior market analyst, Ed Moya

  • “Oil demand in 2023 is expected to be supported by a still-solid economic performance in major consuming countries, as well as potential improvements in COVID-19 restrictions and reduced geopolitical uncertainties," OPEC said in a report

• Gold prices plummeted back to US$1,700 as the blazing hot CPI print triggered a spike in the US dollar and Treasury yields

Not too much for me to say when pretty much everything is going to be red.

Its worth noting the sectors that held up better than most (but still very red) on Wall Street like energy and defensives, while the usual growth-heavy suspects fell the most.

Markets clearly got too complacent with the idea that inflation had peaked and that the Fed wouldn't need to hike rates anymore from mid-2023 onwards.

Now, the unthinkable 100 bps Fed rate hike is on the cards, jumping from zero percent chance to 33% for the September meeting. The markets will now have to rejig its expectations and price in the bad news. Whether that's around or well-below June lows, who knows.

The main thing to look out for today is what the market does after the morning gap down. Does panic selling continue and stocks fall even further intraday? Or will we see some signs of support and buying?

Stocks going ex-dividend:

• Wed: BRG, CAF, CGC, LOV, MCY, MGH, NZM, PPM

• Thu: 29M, ABA, BST, CTE, DDH, DTL, EGH, EPY, EQT, FBU, IGO, PGF, PWH, REG, RMS, S32, SPK, SVW, WQG

• Fri: AHC, ARA, CAR, CAU, PPC, SNL

• Mon: IPG, QUB, SSM

• Tue: None 

ASX corporate actions occurring today:

• Dividends paid: APA, ECP, HGH, NBI, NIC, OCL, RCT, SHA, WTN

• Listing: None

• Issued shares: ABE, AEE, CEL, CNR, EBG, ELO, HAS, IMA, INF, LAM, LOT, MFG, MGF, MYL, NAB, NBI, NZM, RMC, RNU, SLX, SND, TGP, TMZ, WCN, WGB, WSP, XRO

Other things of interest (AEST): 

• UK August Inflation Rate at 4:00 pm

• Eurozone July Industrial Production at 7:00 pm

• US August Producer Price Index at 10:30 pm