Financial markets have finally entered 2022, and the start of the year has already shown some turbulence, indicating a potentially complicated context for this quarter. While a year ago, traders were purchasing stocks, commodities and crypto just to protect against accelerating inflation, today there are no guaranteed inflation hedges. Stocks have sunk through the first week of January following rising Omicron cases and concerns about economic growth in Q1 2022.
In this outlook we will analyze the most recent fundamental numbers, assess the context, and try to make some general projections for the next few months. There are several key narratives which are influencing markets at the beginning of Q1: inflation, potentially tightening monetary policy, and the fast spread of the Omicron variant of Covid-19. The situation looks similar in comparison to the same period a year ago, though increasing inflation today is already a fact, while tapering and rate hikes are new realities which make investors and traders more cautious.
THE BIG PICTURE
The Let’s introduce what’s going on in general to understand the context better. Following the latest report from January, payrolls in the USA have been weaker than expected for two months in a row. This led to a selloff for major stocks, which indicates negative sentiment and a developing “risk off” approach not only for equity markets but also possibly for commodities and cryptocurrencies. Yields of 30-year Treasury yields have grown since the beginning of January, crossing 2%, which confirms the possibility of the first rate hike as soon as the Fed’s meeting in March. If previously there might have been doubts about that, now it looks as though markets are quite convinced.
According to CME’s FedWatch (which is derived from federal funds futures rates), around 70% of participants are sure that the first hike will happen in March.
As markets have received the first employment data for this year (for December 2021) and results are not so encouraging, one might guess that tightening monetary policy and tapering are not yet fully reflected in the prices of different instruments. It wouldn’t be surprising to see the Nasdaq and S&P 500 landing on supports below. Considering the US dollar index specifically, the situation might be more complicated, but it mightalso have some space for growth.
The consumer price index in the US has been growing at its fastest pace since 1982, so inflation will remain in the focus of traders and investors in Q1 2022. The total inflation level in the USA is close to 7%, and that has generally resulted in a continuation of the growth of major commodity indices. Not only crude oil has grown but also a range of agricultural commodities and of course natural gas. Though we haven’t seen any significant reaction by gold, silver, and other metals as inflation continues to accelerate, it would be possible to see a rebound for gold considering that the previous year was disappointing. Gold is on the list of instruments that might regain some points in 2022.
As noted above, payrolls in the USA have missed expectations for two months in a row as of January 2022. This is potentially concerning; however, unemployment Overall, then, sentiment is mildly negative for equity and crypto markets but positive for energy markets. For Q1 2022, we might see further continuation of the rally in energy markets. Crude oil is driven mostly by long-term demand, so if inflation continues to accelerate, oil futures have a high probability of making gains, which would be positive for CFDs on spot oil as well.
Another trend which is visible now is rotation between Covid-defensive (tech) and Covid-cyclical stocks (airlines, restaurants, oil and gas exploration). In spite of the quick spread of Omicron and new records in cases, the Covid narrative seems slowly to be losing its influence on markets. Conversely, it’s unclear how this situation will develop in Q1.
Stock markets generally showed negative performance at the beginning of January, but there is some visible rotation between tech and energy stocks. The spread between the tech and energy sector is declining (see the chart below), which indicates a strong inflation narrative and a potentially weak Covid narrative after the latter had mostly dominated throughout 2021.
The largest tech stocks, traditionally known as “FAANG” although what this acronym stands for varies, are showing declining trends, but AAPL looks stronger than its peers. GOOGL, MSFT, and NVDA have not been touching their highs for a long time, while AAPL had a new high early in January 2022, becoming the first company to reach a market cap of $3 trillion on Monday 3 January.
There are two sectors which show strong dynamics as of the beginning of January: energy stocks and financial stocks. However, a good trading opportunity could come from sector rotation. Most big tech names are expected to show strong performance in Q1 2022, so one might think of a recovery trade. Considering the relative strength of AAPL, let’s take a closer look at this stock.
From a fundamental standpoint, AAPL is expected to report strong results for Q1 2022 and show earnings per share close to $2, which would be greater than for the same period of 2021. We also see that, most of the time, AAPL reported better than expected earnings in 2021 (the gold dot is above the white dot).Growing EPS is a strong indication of a momentum stock, that is to say the one which is about to continue growth.
AAPL on the chart is deep within the area of dynamic support between the 20- and 50-day moving averages and close to the psychological level of $160, so one might anticipate the potential beginning of rotation towards growth from the highlighted area. The market cap of AAPL is massive: it is not easy to move it quickly, but it is on the watch lists of the biggest investment funds, so it has the opportunity to gain even more. The next idea might be to try to pick some stocks from the traditional “old-fashioned” economy. The domination of the Covid narrative is losing influence, so traditional sectors might return to play soon.
Costco Wholesale Corp is considered a “defensive” name, but also it benefits from reviving economic activity, which is evident now despite somewhat lackluster labor data. Technically, the chart of COST looks sustainable and smooth, with less volatility than for AAPL, which is good for a portfolio.
As the pandemic is not over yet, Pfizer might show another round of growth. PFE
is probably the strongest name in the healthcare group, similarly to AAPL for tech.
Depending on a trader’s exposure and other factors, it might make sense for them to
ride the sentiment and try to get on board for PFE.
After the crackdown against Bitcoin mines in China, miners moved to other countries like Kazakhstan, Kyrgyzstan, Ukraine, and the United States. Unfortunately, after many miners moved to Kazakhstan and Kyrgyzstan, they created an energy crisis in those countries that led to another crackdown. However, this might encourage these miners to use renewable energy like solar power to meet their needs rather than moving to other places. As shown on the chart, the hashrate has increased to an unprecedented level. It is hovering around its all-time high, which essentially means that there is increasing mining activity. This can happen because a lot of miners believe that the price will go up further, which might compensate for the cost of producing the Bitcoin they mine.
SUPPLY AND DEMAND
As more and more Bitcoins are withdrawn from exchanges all around the world, the balance on exchanges has decreased tremendously since August 2021. It is expected that the balance will decline further according to its trend, which can be seen from the decline that happened recently.
With the high amount of withdrawals happening globally, the supply of Bitcoin that can be purchased is increasingly lower. If the demand keeps increasing, people could start to buy quickly when supply cannot keep up with demand. Lastly, in the last year, the outflows from exchanges have confirmed indications from previous data that many investors plan to hold their positions for a longer time.
After its tremendous rally last quarter, BTC was under pressure from the second week of November until the end of the year. Currently BTC is sitting near its base and could form another pattern. However, since no pattern has been fully confirmed, it is unwise to guess. If the base is strong enough to hold the price, there could be a bounce; otherwise, it might continue its decline and create a new downtrend on a higher timeframe.
In Q4 2021, inflation was overall very high. In the USA it hovered above 6% and did not seem to be “transitory” anymore as had been stated previously by the chairman of the Fed, Jerome Powell. With this condition, many participants believe that the Fed will hike rates in the first half of 2022. The Fed stated that they are planning to accelerate tapering in the first half of 2022 as well. With more anticipation of tapering and specifically earlier and faster tapering, a drought of liquidity is expected. This would raise the possibilities of many shares plunging and a “flight to quality” phenomenon.
The volume of gold ETFs has hovered just slightly above the positive area. This means participants in the market are very doubtful and this uncertainty is reflected in their decisions. Demand for ETFs in H2 2021 might be due to relatively low prices, with $1,680 having been the low from Q3 2021. Investors (and traders) might now start to eye gold again given overvaluation of various other instruments.
From a technical perspective, the price of gold is forming a symmetrical triangle. With this formation in place, the market seems to be waiting for a breakout. If the price breaks the upper downward-slanting resistance, there is the potential for a movement upward to around $2,050-2,080. However, if it breaks the lower upward-slanting support, $1,500-1,650 could be seen.
Despite a fairly large correction at the end of November 2021, in the first week of January oil held close to familiar areas from the end of Q3 2021 as sentiment generally remained strong and forecasts for demand were not significantly affected by the spread of Omicron. The general perception – but, it must be stressed, not yet established medical fact – that Omicron is significantly less deadly than Delta while being probably more infectious has led participants in various markets to discount this new strain in most respects as noted in the overview.
The other key factor for oil in Q4 2021 was OPEC+. The cartel persisted with its planned monthly increases of production, 400,000 barrels per day in theory. However, in practice it appears that many members and allies are having significant difficulties with ramping up. Russia, one of the top three producers in the world, didn’t expand production at all in December 2021.
The counterpoints to OPEC+’s apparent difficulties with hiking production are the possibility of increasing production in Libya and near certainty of more active American rigs in Q1 2022. According to official data from Libya’s National Oil Corporation, the country’s total daily output as of 6 January 2022 was 729,000 barrels against 2021’s high of more than 1.3 million barrels daily. The reaction or lack thereof to proposed presidential elections on 24 January in Libya remains a wildcard. Agreed postponement or successful elections would probably lead to a significant increase in the country’s ability to supply oil while a breakdown of the ceasefire would likely mean more extensive disruption. Conversely, the USA is practically guaranteed to produce progressively more oil this quarter:
Baker Hughes Co’s weekly count of active oil rigs in the USA demonstrates that supply has consistently increased since the low in summer 2020 and recently passed the two-thirds mark of pre-Covid levels. The incentive for American producers of unconventional oil came storming back last year as prices of American light oil remained above $60 since February 2021. The USA might make up any shortfall from OPEC+, but this depends on domestic consumption, so watching the usual weekly stocks and markets’ reactions to them could be key this quarter.
Overall, demand for oil might never return to “normal”. In the short term, the shift to working from home and remote working is a negative factor, while looking further ahead there’s also increasing market shares of electric vehicles. Politics is the key unknown factor: as of now, it seems extremely unlikely for the world to reach net zero emissions by 2050, but governmental policies can change quickly. Recovery in demand since 2020 has been steady overall but (so far) somewhat slower than after the last major economic crisis in 2008. According to the IEA’s Oil Market Report (figures aggregated by Statista), average daily demand for oil is likely to recover to 2019 levels next year. Supply is likely to keep pace later in 2022, but for this quarter specifically undersupply is quite possible.
On the daily chart of Brent, the 100% weekly Fibonacci retracement area, i.e. full retracement of all losses since January 2020, is likely to remain the main technical reference to the downside. The obvious target above is the equivalent 161.8% extension area around the key psychological zone of $100. Volatility for oil has decreased significantly since late November 2021 but volume is still relatively high, so although $85 remains in view as a possibly strong resistance in the short to medium term a break above this might result in a fresh round of gains.
POSSIBILITIES FOR OIL THIS QUARTER
A major reason for considering another crash unlikely in the near future is the simple fact that everybody is much more prepared for it than in early 2020. The initial (over)reaction to Omicron demonstrates what’s likely to happen if or when markets start to focus on “pi”, “ro” or whatever the next variant of concern might be called.
Equally, while OPEC+ remains confident now, it would almost certainly act in the face of a significant, ongoing drop in prices. The IMF calculated in April 2020 that with Brent at about $50 to $55 a barrel, Saudi Arabia’s reserves of foreign currency would only cover about five months of imports. Other major producers in OPEC such as the UAE would also likely support cutting production in such a situation.American production isn’t yet a factor in clear focus for participants in oil markets. Until it is and in the absence of a major change in the outlook for demand, the upside for crude is likely to remain favorable this quarter.
Q4 2021 in currency markets was dominated by the narrative of surging inflation and central banks’ perceived slow reactions to it. Key trends were the dollar’s gains against many major currencies and the pound’s fairly abrupt return to strength in December as the BoE hiked rates. Most major and large minor currencies showed significantly lower ranges in 2021 compared to their 20-year averages. Loose monetary policy is likely to continue for much of this year, so a significant uptick in volatility looks unlikely for most widely traded forex pairs until Q2. The possibility of a non-trivial differential in rates opening up between the pound and the dollar and a significant differential between the pound and the euro by the end of 2022 is something that participants don’t seem to have considered seriously yet. If this narrative comes more clearly into view this quarter, there might be good opportunities to join possible uptrends for the pound. The focus for the pound remains on inflation because the BoE correctly predicted inflation of 5% over the winter. If this isn’t actually the peak based on monthly data this quarter, the case for faster tightening would become stronger.
Although as noted above and in the overview fundamentals favor the dollar over the euro, it seems to be a challenge for more losses to appear on this chart in the near future. The price landed on support around $1.12 in November and has moved in a narrow range near $1.13 since. Although the reaction to 7 January’s weak NFP is ongoing, there doesn’t appear to be much predictable potential for ongoing movement this quarter given that central banks’ likely policies are priced in.
Euro-pound would be arguably a better candidate this quarter for a longer term sell of the euro both as noted above and because it remains in an ongoing although not especially strong downtrend. The latest low on 4 January is within 0.4p of February 2020’s low slightly below 83p. Beyond that, there isn’t a clear potential support until around 77.5p.