Fragile risk appetite as investors prepare for a crucial week

Pivotal week amidst weakening risk appetite

A pivotal week starts for financial markets as five central banks, including the Fed, the ECB and the BoJ, will hold their respective monetary policy meetings, the UK Autumn Budget will be released on Wednesday, and key technology firms will announce their Q3 earnings results. These events come at a crucial time for market sentiment, as seen by the ongoing weakness in equity indices. 

Despite the small changes recorded last week in the major US stock markets, there is a diverging trend when drilling down to the sectors of the S&P 500 index. The communication services sector had its worst week since late June, industrial stocks completed four weeks in the red, while technology stocks managed to recoup most of Thursday’s losses on Friday. On the other hand, energy stocks were the clear outperformers – the fourth consecutive week with solid gains – followed closely by healthcare and utility stocks. 

Energy stocks are obviously capitalizing on the persistent rally in oil prices, as the market remains sensitive to aggressive rhetoric while easily dismissing headlines about a possible agreement in either of the two ongoing conflicts. And understandably so, as President Trump, at the end of last week, talked about another Epic Fury operation against Iran, and the Russia-Ukraine attacks continued unabated despite reports about three-party talks in Abu Dhabi set for early November. The focus is now on Tuesday’s legislative elections in Israel.

The appeal and the improved performance of defensive sectors are a clear sign of market angst, capitalizing on lingering concerns about AI, and in particular the expected return on investment, the funding of the enormous investment plans and eventually the profitability of the few AI leaders that survive the next few years.

The focus is thus firmly on Wednesday’s Microsoft and Alphabet earnings announcements, followed by Amazon and Intel on Thursday. Anything short of stellar results and upbeat guidance for Q4 and the next financial year could extend the current market nervousness, potentially pushing the main US indices lower. 

The Nasdaq 100 index is currently around 7.5% below its recent all-time high, trading at a key support area, which has been acting as a floor since early August. A break below current levels could bring the 28,000 area into play, although most investors would be monitoring the 200-day simple moving average for a possible rebound. The situation is different in the Dow Jones index, which effectively rebounded off the 200-day SMA in early October and has been heading higher since, exhibiting a rare negative correlation with the Nasdaq 100 index.

Dollar seeks direction

The US dollar is not enjoying the market sentiment, managing to post tiny gains only against the Swiss franc and the euro last week, while dropping almost 1.3% against the aussie. Notably, the latter has been clearly benefiting from the increased chances of an RBA rate hike, although RBA Assistant Governor Sarah Hunter unsuccessfully chipped in with her hawkish commentary overnight.

Further technology stock weakness and fresh headlines about another round of US military operations in Iran could extend the dollar’s current mixed performance, especially if Wednesday’s Fed meeting fails to deliver a hawkish surprise. A rate hike is not expected, but any indication that the FOMC is having second thoughts about the need for further tightening could weigh on the greenback. Markets assign an 88% probability for a hike in December, and a significant drop in these chances could keep the dollar under pressure against mostly the pound and the aussie, whose respective central banks are expected to hike next week.

The battle of the $4,000 level resumes

The recent range-trading in gold ended on Thursday, when US stocks suffered, with the precious metal testing the support set by the key $4,000 level. The June-August trading activity remains fresh in investors’ minds, but the big question is whether central banks and sovereign wealth funds, which came to the rescue of gold back then, will make an appearance once again. Dollar weakness is the key to a gold rally although a meaningful drop in bond yields could also significantly help.