FX Update: No deal Brexit incoming? AUD getting overdone.
Head of FX Strategy
Summary: Sterling is on the defensive as the No Deal Brexit risk is now being taken far more seriously, even if a cliff-edge of implementing new terms is hopefully unlikely. The euro may stumble versus the USD and JPY here if a hard Brexit comes into play. Elsewhere, trading AUD at the moment might as well be a speculative play on Chinese iron ore futures, which have gone parabolic in recent days on top of a strong run higher.
Today’s FX Trading focus:
Brexit crunch time is here – what does "No Deal" actually look like=
The latest statements from UK Primes Minister Boris Johnson and EU Commission President Ursula Von Der Leyen raise concern that we are headed toward a Brexit with no real deal in place. Johnson told his country to prepare for a No Deal and the Von Der Leyen echoed this comment today. But what does an actual “cliff-edge” or No Deal Brexit actually look like? Surely we are not faced with the proper “cliff edge” scenario, with lorries backed up at the border and the chaos that many have feared but a more pragmatic process in which negotiations continue on how the UK and the EU get from here to a post-Brexit there on basic WTO-like terms, or something resembling the deal between the EU and Australia. Neither side has any interest in immediate further disruption of any sector of the economy in the heart of the darkest days of a pandemic.
Regardless, the market will have plenty more sterling selling to do if it is clear that we are headed for a no deal, even if that no deal destination results in a further extension of a phased transition period over perhaps another six months or a year or more on some issues. On that note, GBPUSD is vastly preferred to EURGBP for expressing GBP downside, as any No Deal will negatively impact EUR sentiment as well.
Recall that this Sunday is meant to produce an announcement on the state of negotiation and whether these will continue. The most reasonable scenario if we are headed for a No Deal Brexit, would be an extension of the current transition period terms (no change to customs arrangements, etc.) to give time to hash out the path to semi-WTO terms by the end of next year. This might soften the blow to sterling.
If, on the other hand, the whole situation has been an exercise in brinkmanship and the EU gives in at the last moment to salvage a deal, we could see a tremendous knee-jerk rally in sterling – can’t rule that out entirely. But I don’t understand how a sudden deal is achieved this late in the game however – why bother to go through the theatre of the recent Johnson/Von Der Leyen dinner etc, only to suddenly change positions at the last moment?
With the risk of a somewhat binary outcome this weekend, when we supposedly get a headline indicating next steps for the Brexit process. Assuming we aren’t headed toward a proper “cliff edge” scenario, sterling downside on the prospects for a transition to WTO terms may prove semi-orderly after an initial gap lower. The first key pivot level is the important 1.3000 level ahead of the major 1.2750 support and 200-day moving average.
The G-10 rundown
USD – I outlined the last remaining hurdles for the year for USD bears in my Wednesday update. One of those receding at the moment is the long yield in the US, which declined yesterday on a strong 30-year T-bond auction result. The stimulus question and FOMC meeting and general risk appetite remain open questions. On a side note – the sidewise USDCNY is a bit of a concern for the USD bearish position as well.
EUR – the ECB delivered what was expected yesterday at its meeting, announcing a EUR 500 billion expansion of its QE and extending the horizon of purchases to March of 2022. More generous terms on TLTRO bank lending were also announced, including an extension of 12 months for the current terms and new emergency LTRO’s to be offered next year as a liquidity backstop. Somewhat oddly, President Lagarde said that not the EUR 500 billion for QE need be used if conditions improve sufficiently, which some might see as hawkish. Elsewhere, it appears she tried to talk down the euro a bit with a comment that the ECB is watching the exchange rate closely.
JPY – the yen standing by in the wings to passively absorb strength on any sudden shift to the downside in risk sentiment – whether driven by hard Brexit concerns or otherwise.
CHF - the uptick in Brexit concerns seeing an uptick in CHF as a hedge against both GBP and EUR weakness. Assume that the SNB will robustly defend 1.0700 in EURCHF, after sight deposits have actually dropped over the past three weeks.
AUD – the AUD strength clearly driven by an incredible ramp in Chinese iron ore futures – have a hard time believing this can continue in the nearest term.
CAD – technically, the path to 1.2500 and lower has been opened in USDCAD – just having a hard time ginning up enthusiasm here if oil price momentum fades and risk sentiment takes a breather – some risk of consolidation, in which case 1.3000 is the major chart resistance.
NZD – still we like AUDNZD from a value angle since 1.0500 even if iron ore cools and the 200-day moving average at 1.0650+ holds back the pair in the shortest term.
SEK – assuming a solid recovery next year, we like EURSEK lower, but would prefer to pick spots, wary that a squeeze is possible above 10.30 in the near term if we finally see a more notable consolidation in risk appetite.
NOK – the momentum has come out of the NOK despite the Brent price north of 50 – need a proper follow through higher for ex-US risk sentiment and crude prices for a more notable NOK rally – still like NOK for 2021 eventually, however.
Upcoming Economic Calendar Highlights (all times GMT)
- 1330 – US Nov. PPI
- 1500 – US Dec. Preliminary University of Michigan Sentiment
Latest Market Insights
Outrageous Predictions 2023: The War Economy
- The constantly growing global need for energy drives the world's richest to huddle up and launch a R&D project in a size the world hasn't seen since the Manhattan Project gave the US the first atomic bomb.
French President Macron resignsThe political stalemate in France and the rise of Marie Le Pen following the 2022 elections corners President Macron, forcing him to give up on politics and resign from his position. At least for now.
Gold rockets to USD 3,000 as central banks fail on inflation mandateAs markets and central banks realise that the idea that inflation is transitory is wrong, and that prices will remain higher for longer, gold is sent through the roof, hitting a price tag of USD 3,000
EU Army forces EU down path to full unionWith continued challenges in the region and a US military that isn't aggressively enacting its former role as global policeman, the European Union agrees to create its own armed forces, bringing the whole region closer.
A country agrees to ban all meat production by 2030In an effort to become one of the global leaders on the path to net-zero emissions, one country decides to not only put a heavy tax on meat, but to ban domestic production entirely.
UK holds UnBrexit referendumFollowing a recession and domestic pressure, the United Kingdom is thrown into political turmoil that will end with a vote to wind back Brexit.
Widespread price controls are introduced to cap official inflationHistory tells us that with the war economy comes rationing and price controls. And this time is no different, as policymakers introduce strict price controls that lead to a range of unintended consequences.
OPEC+ & Chindia walk out of the IMF, agree to trade with new reserve assetSanctions against Russia have caused widespread turmoil due to US Dollar moves in countries across the globe that don't consider the US an ally. To relieve themselves from this, they leave the IMF and create a new reserve asset.
USDJPY fixed to the USD at 200 as Japan overhauls financial systemFollowing the challenges that faced the Japanese Yen in 2022, the Bank of Japan attempts to keep the currency from sliding. Unsuccessful on the long-term, Japan will launch a reset of its entire financial system.
Tax haven ban kills private equityWith the war economy comes an increased focus on national interests and sovereign nations' ability to assert themselves. In that regard, the OECD countries turn their attention on tax havens and pull the big guns out, banning them altogether.