Quarterly Outlook
Equity outlook: The high cost of global fragmentation for US portfolios
Charu Chanana
Chief Investment Strategist
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FX Update: EURUSD looking heavy ahead of ECB
John J. Hardy
Global Head of Macro Strategy
Summary: The euro is trading weaker ahead of the ECB meeting tomorrow and may be catching a bit of a cold from the fallout in sterling as a hard Brexit would add to the headaches in Europe if less so than for the UK. Elsewhere, risk sentiment is trying to pick up the pieces and the smaller currencies are bouncing after the hectic selling mostly concentrated in the US markets in recent sessions.
Trading focus:
EURUSD trading heavily – eyeing key 1.1750-00 zone
As of this writing, EURUSD trading on the multi-week lows just ahead of 1.1750, but the bigger downside level looks to be 1.1700, a break of which could points to the major 1.1500 zone lower.
The US dollar is not really the driver for further EURUSD weakness today, which finds the pair pushing on the top of the key 1.1750-00 area. Elsewhere, the greenback is actually lower in today’s trading against the smaller currencies as risk sentiment is attempting to stage a comeback after the zany volatility that has so far avoided much transmission into FX (i.e,, safe haven seeking in the USD and JPY). Indeed, the volatility has been almost entirely limited to the US market. Rather, it is euro weakness in the driver’s seat and one of the factors weighing may be the sudden injection of volatility into sterling since yesterday on Boris Johnson’s aggressive stance on Brexit. A hard Brexit will certainly affect the EU’s economic fortunes as well, so it is certainly fair to discount the euro as long as hard exit fears prevail. Still, there is little real fear priced in here at current levels and not just in EURUSD: if we have a look over at EURJPY, it hasn’t yet even mustered a break through the key 124.50 area.
Chart: EURUSD
EURUSD is trading heavily here and looks ready to explore the rest of the pivot zone into 1.1700 ahead of tomorrow’s ECB meeting. The hurdle is rather high for Lagarde and company to surprise on the dovish side, but if the ECB wants the EUR lower (as we all know it does after chief economist Lane took the opportunity to rhetorically intervene right as EURUSD briefly breached 1.2000), it could get some help from a market that has been caught complacent on the risks to not just sterling, but also to the euro, even if to a lesser extent, from hard Brexit risks.
GBP volatility risks remain
The market could prove very headline driven for the rest of this week depending on developments from the latest Brexit talks this week. So far we have seen nothing that sounds conciliatory or particularly friendly as Boris Johnson and his team may ready to take this to the edge and over the edge if the EU position can’t be moved significantly. It’s a long wait until Boris Johnson’s declared mid-October deadline. For technical levels, watching 1.2750 next in GBPUSD and the 0.9150-75 post-COVID-19 train wreck highs in EURGBP.
Risk on or risk off? The G10 smalls.
As noted above and yesterday, the volatility in the US equity market is just that: only in the US equity market, and will remain a far smaller factor in safe haven seeking in FX than normally as long as global equity and other markets fail to move in sympathy with the US. This is perhaps a possibility because most other markets completely sat out the last two months of ramping higher in US equities and especially the US megacap names. I suspect that we are not far from levels in US equities that start to spook global market if the selling continues, however, so let’s see.
Among G10 smalls, the likes of an AUDUSD has avoided a meltdown due to the lack of contagion across risk assets and continues to hang in there above the 0.7200 level today, while USDCAD has consolidated a bit more sharply yesterday on the plunge in oil prices – the Bank of Canada is up today after a string of positive data and after moving significantly in July – don’t see this as an important catalyst. 1.3300-50 zone is the key resistance for USDCAD.
That big move lower in oil has more badly damaged NOK as EURNOK has squeezed all the way to 10.80, a resistance level ahead of the bigger 11.00 area. If lower oil prices are pointing toward weaker global growth prospects going forward and the risk off in US equity markets begins spreading more profoundly on growth concerns, the G10 smalls could suffer far more weakness than we have seen in the recent gentle consolidations. Things feel very much balanced on a fulcrum here.
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