Market mood fragile into a busy week

A very busy week ahead on the economic calendar, starting with US PCE Inflation data up later today. But the spotlight can quick be stolen at any moment by headline risks linked to Brexit, European Union existential issues, and especially the status of the CNY floor, all while animal spirits in global equities remain on the defensive.

In EM, the Brazilian real continues to march to the beat of its own drummer, closing on a strong note into the weekend ahead of what looked like a sure victory for Bolsonaro in the presidential election run-off. Indeed, Bolsonaro won 55-56% of the vote and will have enough of a mandate to move on his pro-business platform, which was celebrated by the market already in the Asian session with a strong rise of more than 10% in a Brazil ETF trading in Japan. The USDBRL reaction is also key, and the futures points to a strong opening for the real in American trading hours later, up over 1.5%.

In Asia, weak asset markets and concerns on the risk that China will eventually abandon the CNY floor have kept Asian currencies pegged near the lows for the cycle versus the US dollar. The renminbi pulled away from new lows versus the USD and closed on a strong note on Friday, but weakened anew to start this week. As I posted on Friday, the USDCNY exchange rate is the only thing that matters here for FX traders and volatility in the short term and trading ranges are likely to remain bottled up and treacherous until we get a sense of China’s intentions for its currency.

Over the weekend, the election in the German state of Hesse saw the expected flight from the centre of German politics as both the CDU and SPD suffered ugly drops in representation, with the latter losing full a third (-10.9%) of its prior result and the CDU losing 11.3% of its votes, polling at 27%. The SPD is desperate and in an impossible situation – it clearly needs to pull out of the grand coalition, but doing so would bring down the government and require new elections that would cement its fall. The Hesse election result sets up an interesting CDU party conference in December, where Merkel’s fate as Germany’s leader could be in play.

Over the weekend, Chinese exporters reported weaker activity levels in October, according to an FT survey (paywall). The FT survey reveals still hopeful expectations, but also discusses the concern that activity levels at present could be misleading as exporters scramble to push through as much volume as possible before the US tariff levels rises to 25% on January 1. It is clear that the activity surveys in coming months and especially in early 2019 will be critical for measuring the impact of the trade showdown between the two powers. Asian equity markets are already voting with their feet, as the Monday session saw yet another weak session for a wide swathe of major Asian indices.

Chart: AUDUSD

The AUDUSD bounce from new lows looks significant unless we see it merely through the lens of USDCNY, which avoided a melt-up on Friday after new highs for the cycle were posted. An AUDUSD rally is not likely to get underway until or unless China makes a more forceful defense of its currency.