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US stocks: more bumps ahead? VIX above average, DXY battles Euro, Pound struggles

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By Han Tan, Market Analyst at FXTM

A gust of optimism is sweeping through equities with Asians stocks mostly higher, while US futures are climbing, despite Wall Street faltering on Thursday.

Investors are mulling the now-dimmer prospects of another round of US fiscal stimulus before the November elections, after Senate Democrats voted to block the Republicans’ downsized proposal. The MSCI All Country World Index (ACWI), which measures the performance of global equities, is now set for two straight weeks of losses, not seen since March.

The heightened volatility in the markets is evidenced by the Volatility Index (VIX) rising above its 100 and 200-day moving averages, though the index has now moderated from its peak a week ago and reads slightly below the psychologically-important 30 level.

While investors may appear cautious about extending the same break-neck advances in US equities, noting the still-lofty valuations and the elevated volatility, the desire to push US stocks higher is still tempting some to join the march north.

Perhaps, the volatility so far this month is just another bump in the road for US stocks, as investors pursue new record highs, emboldened by the tremendous support from central banks. With valuation metrics losing their influence over investment decisions, coupled with the rising influence of retail participants, markets are likely to be subjected to traders’ whims and fancies for a while longer.

Looking ahead, there could be even more volatility in store with the quadruple witching day for US markets taking place next Friday. On September 18, Futures and Options on Indices and Stocks are set to meet their quarterly expiration which can trigger heightened volatility and a surge in trade volumes.

For reference, in the week before the June quadruple witching day, the S&P 500 tumbled by as much as 7.7% and the VIX breached the 40 mark. Since the June 19 event, the VIX then moderated towards its long-term average of 20, while the S&P 500 added another 12% through to the end of August.

The Dollar index (DXY) has managed to clamber back above the 93 psychological level and keep its head above the 30-day simple moving average, as EURUSD’s break above 1.19 proved fleeting. Still, the Euro’s resilience remains a drag on the DXY, after the European Central Bank (ECB) set aside the notion of immediate intervention in the bloc’s currency for the time being.

The DXY’s fortunes have also been helped by the weaker Pound, which accounts for 11.9% of the index.

Bigger cracks are now appearing in UK-EU talks which raises the threat of a no-deal Brexit on December 31. Having concluded eight rounds of negotiations, with another round set to take place in Brussels next week, the Brexit drama has returned with a vengeance with the British Pound falling nearly 3.5% so far this week. The uncertainty is expected to keep GBPUSD in the sub-1.30 region over the coming weeks, barring a miraculous breakthrough in negotiations or a sudden bout of weakness in the US Dollar.

The US inflation outlook has traditionally been a key driver of the US Dollar, with the August CPI data in focus on Friday. Although the spectre of faster US inflation, as tolerated by the Fed, threatens to erode the Dollar’s allure, markets remain sceptical over the source of such upward price pressures, especially considering the uneven recovery in the US jobs market as seen in Thursday’s disappointing weekly US jobless claims data.

Without the promise of near-term fiscal support, coupled with the rising political uncertainty surrounding the November elections, such concerns may bolster support for the Greenback in the months ahead.

 

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