Rally in risk assets to be challenged as Sino-US tensions return

Over the past several weeks it has been Covid-19 that has dominated the headlines with stimulus packages, lockdown easing, potential vaccines and the shape of the economic recovery being the main factors moving financial markets. However, that changed on Thursday when China announced its plans to introduce a national security law that could ban people in Hong Kong from inciting and participating in protests. While China said that the bill would protect the semi-autonomous city’s freedom, many political figures across the world view it as a takeover of the Asian financial hub. With Sino-US relations already tense due to the virus spread, this issue will only complicate relations further.

The escalating tensions between the two largest global economies may impose a new threat to the recovery in risk assets, having advanced 30% from their March lows. Yet the reaction so far has been mostly limited to Hong Kong’s Hang Seng index which plunged 5.6% on Friday in its biggest fall not seen in almost five years. If these declines develop into a stronger downtrend, there is a high chance of that threat spreading to other developed and emerging markets.

In currencies, the Dollar edged higher against its Asian counterparts. The Yuan is trading near its 2019 October low of 7.14; while the Australian and New Zealand dollars were slightly lower against the greenback.

Sterling, the worst-performing major currency this month, is likely to become more volatile with risk tilted to the downside as we approach the deadline for the Brexit transition period at the end of June.

Expect currencies to remain in a narrow range for the rest of the day as there is the Memorial Day Holiday in the US.

Markets will also keep a close eye on upcoming economic data Stateside, with consumer confidence, durable goods, personal spending, the second reading of GDP and pending home sales are all due to be released this week.

Traders will need to focus more on leading economic indicators rather the lagging ones. That’s what makes tomorrow’s consumer confidence figure important. Back in April, confidence fell to the lowest levels since September 2014, but given Americans filing for jobless claims have been on the rise since the last survey, we should not be surprised if we experience further steep falls.