Before I commence on joining the chorus of opinions for the year ahead,
I would like to wish all readers a Happy New Year and a great 2017 ahead. I
also take this chance to craft my first post of 2017. Owing to the length of my
writings, this post shall be split into 2 parts for
optimal reading. I don’t think anybody can take 20 pages worth of words
in a single viewing.
2016 has once again been a year of volatility
and many surprises, the two single biggest event
s being Brexit and the election of Donald Trump. In hindsight, these “black swan”
events may not have been accurately predicted to happen, but their consequences
on the financial markets have been neglected prior to their happening,
resulting in huge volatility in the aftermath. The biggest single takeaway from
2016 then, is to
expect the unexpected. However paradoxical this sounds, it has
proven to be unbelievably true in this eventful year. Whether we will see a
repeat of the surprises of 2016 in 2017 remains as anyone’s guess, but no
matter the circumstances, it pays to consider the unexpected.
Looking ahead, we begin the year with the first major event of 2017 –
the inauguration of Donald Trump on 20th
Jan. Following that, we have the German
Presidential Elections on 12th Feb and the French Presidential Elections in April. Parliamentary elections are
also scheduled for France and Germany in 2017. Elections in Italy look possible
too, following the resignation of PM Matteo Renzi after the Italian Referendum.
In the backdrop, the Syrian Civil War rages on, and the threat of a belligerent
nuclear-armed North Korea lingers in the background. The US and China look set
to spar economically, as President-elect Trump has threatened to label China a currency-manipulator, at
a time which China’s economy has been
slowing continually and foreign currency reserves are dwindling quickly.
As Warren Buffet has said before, “In the business world, the rearview mirror is always clearer
than the windshield”, nobody knows for sure what is going to happen
to the financial markets in 2017. As with every prediction made by every
pundit, they may turn out to be right or wrong. I don’t expect many of my predictions to come
true (and I won’t be surprised if none come true), but they serve as my views
at this point in time. To be exact, I will be making more than 7
predictions in total, but I’ve sorted them into 7 categories.
The financial world has seemingly become a different place following the
election of Donald Trump. Equities have skyrocketed to record highs (at least
for the US markets) while bonds have sold off sharply. Soaring bond yields
fueled a rising US dollar, while gold hit a wall on its stunning rally this
year and plummeted. All these happened in a matter of 9 short weeks.
This chart of the S&P500 in 2016 says it all:
From a technical perspective, connecting the two lows at the selling
climax following Brexit and the US elections, and drawing a parallel line touching
the market highs in August and more recently in December, gives us a rather
nice and rising bullish channel
(diagonal purple lines), setting the stage for a potential bull market into
2017.
The stock market’s climb since the February lows has been nothing short
of remarkable and it gives an insight into the underlying strength of the
current bull market which turned 7 years
of age in April 2016. However, it is worth noting that key resistance
levels on the way up, at 2120 and 2200 respectively, as well as the 127.2% Fibonacci
extension at 2193, were taken out in the rebounds after big selloffs following Brexit and Trump.
We are in the midst of the second-longest bull market in US history, and this
trend looks set to continue into 2017. However, geopolitical upheavals in 2017
could once again derail the bull on its course. Frothy valuations are also a concern, with the current
trailing-12-months P/E ratio for the S&P500 inching toward 26, way above its historical average P/E of 15.6.
This means that investors are pricing
in massive earnings growth for US companies in 2017, on hopes of Trump’s promised
fiscal spending spurring further economic growth. Should President Trump fail
to deliver on his promises, or his plans shown to be lacking or ineffective,
that sky-high P/E ratio could quickly revert toward the mean, taking the stock
market along with it.
S&P500 Prediction
Verdict: Moderately Bullish
Predicted End-2017 Level: 2350
Worst-case-scenario Level: 2040
Immediate Resistance Levels: 2280, 2300 (161.8% Fib extension close by)
Immediate Support Levels: 2225 (138.2% Fib extension), 2190 (former
resistance, with 127.2% Fib extension close by), 2120 (former strong
resistance)
Straits Times Index
Back home, things don’t look so bright.
Singapore’s Straits Times Index has underperformed
its US counterpart. The euphoria of the late-2016 “Trump rally” has
certainly not permeated the local atmosphere. The STI has been trapped in a trading range since April,
with rallies capped by the 2960 mark and
selloffs failing to break below 2700, and more
recently 2770. A rising wedge formation has started to appear, by connecting the
lows in June and November, with the top of the wedge firmly established by the 2960 level.
Going into 2017, all eyes will be on the 2960
level. A solid break and consolidation above this level will enable the index
to challenge the 3000 point psychological level
once again. However, with a lackluster
outlook for the local economy, local investors are in the doldrums. Traders
are unlikely to chase any breakout rally. However, when the index dips back
into attractive levels, say 2750, value investors bargain hunting swoop in for
the kill and provide support to lift the index.
I don’t see this exasperating range bound trade to abate in 2017. Sure,
we could see a rally lasting a few weeks or even months, but the STI is unlikely end the year substantially
higher. Unless economic outlook improves, woes about changes in US foreign
policy affecting the region are lifted, or bargain hunters swoop in and buy en
masse (the Singapore market currently has one of the lowest P/Es in the
region), the local market would continue to see moribund range-bound trading.
Straits Times Index Prediction
Verdict: Neutral
Predicted End-2017 Level: 3100
Worst-case-scenario Level: 2700
Immediate Resistance Levels: 2960, 3000 (psychological), 3039 (50% Fib
retracement)
Immediate Support Levels: 2800 (psychological), 2770 (23.6% Fib
retracement), 2700 (May and June lows)
2) Oil
While there are two benchmarks used to gauge oil prices, London-traded
ICE Brent and New York-traded WTI Crude, I shall use WTI for my analysis.
However, due to charting limitations and the way oil is traded (by futures
contracts which expire every month), I shall use the chart of CFD contract
USOIL for analysis.
The oil world had its own “Trump moment” when OPEC approved output cuts
at its 30th Nov meeting, rallying past and managing to hold above $50 a barrel. The past few forays into $50 territory since late 2015 have been met with insurmountable resistance,
with oil failing to gain a footing above that elusive price level time and
again.
With the $50 mark now firmly established,
after breaking out from range-bound trade in the $40s,
oil looks to continue its current rally for the time being, as the OPEC output
cuts kick in and help to reduce near-term supply. Connecting all the lows from
April to November on the chart, and extrapolating a parallel line touching the
mid-2016 spike, a bullish channel is
somewhat established.
Going into 2017, I do not think prices will surpass and hold the 2015
highs at $62. While OPEC may be cutting
back on output, non-OPEC nations are still free to pump at will. Although
OPEC is looking to get other nations to join in on their output cuts, the task is definitely going to be an
uphill one, and its details are not going to be finalized anytime soon. Without
a pact to limit production, non-OPEC members, most notably US shale oil
producers, will be enticed to pump more
oil in response to higher prices. Not to mention, OPEC members themselves
may cheat on production quotas and
over-produce, due to budgetary pressures back home. This once again
increases supply and caps prices from rising.
Oil producers are also massively
selling oil to take advantage of higher prices currently. A glance at the
oil futures curve (for those with a Bloomberg terminal) shows the futures
market in backwardation
(an anomaly) between late 2017 and 2019. Backwardation refers to the situation
which futures contracts further out in time are priced cheaper than similar
contracts closer to expiration. The oil market is usually in contango,
a state whereby futures contracts further out in time are more expensive than
those nearer in time. Market pundits take this as a sign of producer hedging
(locking in favorable prices) and I don’t disagree with them.
With this in mind, I expect US oil prices to remain range-bound in 2017,
roughly between $50 and $65,
barring unforeseen catalysts that may propel prices sharply either way. Prices in the nearer term may return to
challenge the $50 level before moving off higher.
USOIL Prediction
Verdict: Neutral
Predicted End-2017 Level: Range –bound between $50 and $65
Worst-case-scenario Level: <$45, as shale producers flood the market
with new supply, undoing the effects of OPEC’s output cuts
Immediate Resistance Levels: $57.25 (61.8% retracement of end-2014 to
early-2016 decline), $60 (psychological), $62.50 (2015 highs)
Immediate Support Levels: $50.90 (the line in the sand), $48.60 (Fib
retracement level)
Another point of interest is the composite chart showing the spread
between Brent and WTI, using proxies UKOIL and USOIL. In the past, the spread
used to be way higher than it is now. While overall oil prices may rise across
the board, I expect Brent crude to rise
more than WTI crude, owing to US shale producers increasing output and thus
capping prices.
Therefore, the Brent-WTI spread should widen and probably move
toward its 200-week moving average at around $5.50.
A way to play the widening spread would be to go long Brent crude and go short
WTI crude. However, playing the spread is a risky strategy and it is best left
to the professionals.
3) Gold
2016 has been a wonderful year for gold investors, save for the last 2
months, as gold rallied from its 3-year lows of $1050
since the gold bubble burst in 2013, to hit a high of $1375
in June 2016. However, following Trump’s victory and the surge in the US dollar
as well as US yields, gold has lost much
of its shine in an environment of rising interest rates and a strong dollar,
falling to a low of $1130, but still managing to
end 2016 higher than it started the year.
Calling the direction for gold in 2017 is a tricky one, as numerous
factors have an influence on its price. On one hand, gold is viewed as a safe haven when things go south, as
seen in the aftermath of Brexit. It is also viewed as a safeguard against rising inflation, from a long-term perspective.
On the other hand, gold prices tend to
fall when interest rates (bond yields) rise, as the opportunity cost of
holding gold (an investment yielding nothing) increases in a rising interest
rate environment.
2017 looks to be a year with both positive and negative catalysts for
gold. With so many key EU members going to the polls, geopolitical scares may
send safe haven gold soaring once again. Trump’s fiscal spending plans may
create a lot of inflation in an economy agreed to be at full-employment by
economists, thus driving gold prices north.
On the flip side, the Federal
Reserve is forecast to hike interest rates 3 times in 2017. A rapid series
of increases is seen to be bearish for
gold. US government yields are also
forecast to rise in 2017, with the 10-year yield predicted to hit 3%. Gold does
not shine in an environment of rising interest rates. Not to mention the
possible effect of a stronger US dollar. Since gold is traded in USD, its
strength is inversely correlated with the dollar in the short term. A stronger USD means lower gold prices.
Gold investors are once again faced with a dilemma – to buy in or to
stay out? I shall use technical analysis in attempt to answer that question. Connecting
the highs in 2014 and 2015 gives us a downward sloping trendline (green
diagonal line) that was breached in early 2016. Prices later retraced to this
line in November 2015 and this support level appears to be holding. Near term
support is also provided by the 23.6% Fib retracement at $1125.
If this confluence of support levels hold and gold prices move off to
challenge $1200 again, we would have formed a “higher low”, which from a technical
perspective, is a sign of the downtrend
ending and an uptrend beginning. However, should this level break, prices
could fall to challenge $1050 again. The failure
to establish a “higher low” is confirmation that the broader downtrend is still
intact.
Considering the fundamental backdrop and technical factors, my view is
that gold prices are likely to move
higher in 2017. Besides the backdrop of negative interest rate policies
still ongoing in many of the world’s major economies (EU and Japan), which is
constructive for higher gold prices, 2017 looks to be another year of
volatility amidst a difficult geopolitical background.
The Fed also looks unlikely to
hike interest rates in the first half of 2017, adopting a wait-and-see
approach, in fear of derailing the precarious US economic recovery. This view
is reflected by the market, where the implied probability of a rate hike based on the Fed Funds Futures
does not cross 50% until June. Therefore, with rate hikes out of the
way and elections scheduled to happen in major EU economies, combined with the
actual act of Brexit predicted to happen during this period, the first half of 2017 looks constructive
for higher gold prices.
The big unknown then, is how the Fed would move in the second half, as
well as any big fiscal measures by President Trump, the effects of which would
have started to kick in by then. Barring unforeseen circumstances, I think moderately higher gold prices would be likely.
XAUUSD Prediction
Verdict: Moderately Bullish
Predicted End-2017 Level: $1300
Worst-case-scenario Level: $1050
Immediate Resistance Levels: $1173 (38.2% Fib retracement), $1200
(psychological level), $1212 (Fib retracement level and former low)
Immediate Support Levels: $1125 - $1130 (confluence of Fib level,
trendline and end-2014 low), $1080 (psychological level in late 2015)
[This concludes the first part of my post. Please proceed to the second part using navigation panel on the right.]
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