Global Head of Macro Strategy
Summary: The wider market turbulence boosted the USD and especially the JPY as USDJPY eyes the big 104.00 level this morning and many other JPY crosses have broken down. Is this a positioning clear-out of a nervous market unable to sustain a position ahead of the big US election unknowns? Hard to know, but it may also be hard for traders to sustain directional conviction through Election Night next Tuesday.
Please note: I am penning a series of daily articles on the US Election countdown and in yesterday’s “T-minus six days” article I ran down five US Election outcome scenarios and how the US dollar and other major asset classes might react under each scenario.
Today’s FX Trading focus:
Risk deleveraging boosting the usual suspects, if not spectacularly
The stronger JPY has been a consistent theme of late and the yen stayed firm through yesterday’s risk deleveraging in equity markets, with an interesting wrinkle later in the session as, probably no coincidence, the firmness shifted to a bit of weakness as US treasuries sold off sharply from new multi-day highs and actually ended the day lower than where they started. If US treasuries fail to act as a safe haven on a day like yesterday or in general through a larger equity market setback, the scale of any JPY rally could prove more modest than if US yields were to push toward cycle lows and beyond
The USD was likewise stronger yesterday, with the commodity currency holdouts finally waking up and smelling the risk off coffee, as the bottom fell out of AUD in particularly and AUDUSD is now within sniffing distance, to keep the olfactory metaphor, of the critical 0.7000 level. Given the scale of the sell-off from the recent US equity market highs to where we ended yesterday, the AUDUD consolidation looks relatively modest. We like the reflationary story for AUD in a Blue Wave outcome in the US outcome in particular, and therefore like the prospects for a much stronger AUDUSD next year. In that vein, worth stocking up on a quarter to a half long position through options now and another half if further turbulence continues over the US election and triggers a washout in AUDUSD longs. For perspective, with AUDUSD trading around 0.7040 this morning, a 0.7300 call for April 1 cost 96 pips and a 0.7500 call for July 1 cost 84 pips.
Chart: USDJPY
The big 104.00 level is coming into view – an important one as it is the September low and the lowest level traded since 2016 save for a few chaotic sessions during the Covid-19 panic this spring. A break potentially opens for 100.00 or lower, although it is difficult to understand how many are willing to take large directional bets on major USD pairs ahead of the US election. In my US Election “Train Wreck” scenario of a hotly contested election in which it becomes clear that the election will both be contested even if Biden likely to emerge the winner and that the Republicans will maintain the US Senate. On top of possibly tremendous market volatility around the contest election period itself, the ensuing anticipation of weak US stimulus as the Republican Senate blocks anything and everything the Democrats want would possibly nix much of the anticipation of reflation in the US and lead to an even more hyperactive Fed as the yield curve flattens aggressively. Such a set of developments could favor JPY the most among G10 currencies and could drive USDJPY well below 100.00.
ECB today
The ECB will move again on expanding its balance sheet before the end of the year (whether now or December not a game changer in my view), and the question is more one of whether any QE expansion can move the needle or if the ECB needs to innovate at the edge of its mandate and beyond with direct loan programmes to business or other to move the needle. Rate cuts are pointless and should be off the table. In the ECB’s case, more innovation in the direction of supporting business directly (ECB notoriously slow in bringing innovation, but flagging it could do the trick) would probably be a net EUR positive, as would hints from governments that more fiscal – and mutual fiscal – will ride to the rescue soon at Covid-19’s epicentre. As with AUDUSD above, I prefer positioning for a firmer EURUSD over the next few months to two years, initially through options. We may have to have a test below 1.1500 first if significant further risk deleveraging unfolds here.
Sterling rallying hard this morning
Sources indicate the two sides in the Brexit discussion are making progress, with suggestions that a deal may be reachable by early to mid-November as the writing of the text on the terms for fisheries and state aid has apparently started. Interestingly, sterling traders are taking this and running with it this morning, as EURGBP is challenging the important 0.9000 area this morning. This despite the risk of fresh Covid lockdowns in the UK after France and Germany announced new severe restrictions yesterday. Our stance is that sterling upside could prove surprisingly restrained at best in the event the final breakthrough that eliminates all talk of hard Brexit is announced.
Odds and ends
Petro-currencies taking it on the chin, with USDCAD above 1.3250 trigger after Bank of Canada extended the horizon of its forward guidance on zero rates out to 2023 and despite announcing a slowing of its bond purchases (nominally hawkish, but it was gobbling up bonds so fast that it was become disruptive – also politically as I noted yesterday). EURNOK is well above 11.00 this morning– significant squeeze danger higher there if oil takes out the next supports.
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