Investors will comb through Wednesday's minutes of the most recent Federal Reserve meeting for indications on how the US central bank will react to the recent yuan devaluation and the further decline in oil prices.
The recent outperformance of bank stocks and underperformance of utilities, both on expectations of higher Treasury yields, support current market bets that the Fed will raise rates for the first time in nearly a decade after its mid-September meeting.
The performance gap between the two sectors widened in favour of financials to its largest since May 2008 shortly after the Fed's July meeting. But this week, following the nearly 3 percent devaluation in China's currency and a steepening decline in oil prices, it narrowed to its tightest in more than a month.
Strategists at Bank of America/Merrill Lynch said in client notes in the past week that China's move may be the early stages of a near 10 percent devaluation of the yuan against the US dollar over the next year. Such a move could translate to a 5-percent drop in Brent crude, they said.
"Most likely, there will be more volatility in the market and part of the reason is oil prices and the worry that somehow the price of oil is a reflection of inflation and deflation," said Quincy Krosby, market strategist at Prudential Financial in Newark, New Jersey.
"The lower goes, the more it is a deflationary barometer. The lower it goes, the more difficulty the Fed has raising rates."
The Fed mentioned "earlier declines in energy prices" on its latest statement on July 29, and their downward pressure on inflation. Since that day, US crude has fallen more than 12 percent.
PAST THE FED, FUNDAMENTALS
Even if the yuan seems to have stabilised, its 3-percent drop against the US dollar and the possibility of a further slide will continue to be something to watch for highly exposed companies.
The devaluation did hit companies in several sectors, including high-end retailers like Coach and Tiffany . Apple, which gets about 23 percent of its revenues from China, according to Morgan Stanley, tumbled this week to a near seven-month low.
For importers from China like Target, Walmart and Home Depot, both reporting next week, the tailwind is expected to be offset by the expectation of a slower global economic growth, according to Michael Yoshikami, CEO of Destination Wealth Management in Walnut Creek, California.
Estee Lauder, expected to post earnings on Monday, is among the first high-end retailers to report after the yuan devaluation. Its stock was on track on Friday to close the largest weekly drop since late May.
"The whole Chinese luxury goods market, especially imported beauty products, has been on fire for years, but in the last year things have really turned around," said Kim Forrest, senior equity research analyst at Fort Pitt Capital Group in Pittsburgh.
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