FX Update: Risk off swoon sees twin USD and JPY wrecking balls swinging. FX Update: Risk off swoon sees twin USD and JPY wrecking balls swinging. FX Update: Risk off swoon sees twin USD and JPY wrecking balls swinging.

FX Update: Risk off swoon sees twin USD and JPY wrecking balls swinging.

Forex 4 minutes to read
John Hardy

Head of FX Strategy

Summary:  The weak close in equity markets last week is turning into an outright rout to start this week as Asia and especially Europe hit the skids ahead of the US session. The purported driver of the weakness in risk sentiment is the resurgence of Covid, but an increasingly complacent market was always going to be poorly prepared for a spike in volatility, one that in FX is sending the usual twin wrecking balls of the USD and JPY swinging, with the risk of the fallout worsening further before the move exhausts itself.


FX Trading focus: Market complacency prior to this episode of risk-off aggravates the potential for an ugly acceleration before things improve

I remarked at the close of last week that the USD had put in a remarkably resilient week, given that 1) another hot CPI print from the US for June keeps real US yields by the far the most deeply negative among major currencies, and 2) that Fed Chair Powell continued to maintain that inflation would prove transitory and that the “substantial progress” needed for the Fed to shift its guidance was still “a ways off”. Fast forward to the pre-US open market today and what looked like a fairly run-of-the-mill consolidation into the close Friday for equities is turning into something a bit more ominous, with the usual reflexive action in currency markets: the USD and JPY are up against everything, and the latter more than the former.

This is the classic risk-off pattern of the markets of past cycles, with the JPY full flexing its muscles on the combination of steeply lower safe-haven bond yields, weak risk sentiment, and EM and credit coming under pressure. Adding to the risk that this situation could get far worse before it gets better, Market positioning in the US futures market has yet to see the persistent EURUSD long more fully unwound, although last Tuesday’s level is the smallest net speculative long since March of last year, in the teeth of the worst phase of the Covid crisis for markets. Elsewhere, the JPY short among speculative traders, still at nearly -56k contracts as of last Tuesday, was still quite large if not by historic standards. Recall that 109.00 is an important area for USDJPY. By the way, combining those two, we can see where some of the energy for this downside move in EURJPY has come from.

Elsewhere, note that EM is under pressure on the strong USD/risk off one-two and NZDUSD looks very much on the rocks as it becomes evident very quickly that shifts in EM- and smaller DM policy and policy guidance to the upside don’t amount to much when the risk-off USD and JPY wrecking balls get to swinging in full force. Stops could see quite an acceleration lower in NZDUSD on a break below 0.6900.

Chart: AUDJPY
The classic risk proxy among G7 currencies, AUDJPY, is flashing its historic correlation with global risk sentiment, tumbling through the 200-day moving average overnight as the market has rushed to take off reflation trade, unwinding commodity and commodity currency-longs and the currencies these were often traded against, notably the yen. The next area of note is perhaps the old resistance on the way up around 78.50 or the 61.8% retracement of the entire move up from the lows last October near 78.00, below which a full breakdown is a risk toward the low 73.00’s – a scenario only likely if we are set for a major rout in equity markets of full 10% “correction” magnitude or greater. It is also worth keeping an eye on AUDUSD, which has broken down through a key area around 0.7400, a development that could point toward 0.7000 in the weeks ahead.

Source: Saxo Group

I should point out that my timing last week in looking for ways to trade central bank policy normalization could have hardly been worse, as we have seen three of the four (longer term EURUSD and AUDUSD calls, selling EURNOK and selling EURGBP) moving sharply against the trade views. That’s because, as I noted, these trades would like prove correlated, but also because any ugly risk-off wave often coincides with lower anticipation of central bank tightening. Clearly, I was far too early here, although I will certainly revisit these ideas in the weeks ahead, especially as any add-on USD move will likely turn so destructive so quickly that this move will inevitably prove self-limiting (the clock ticks very loudly with a 10% correction in US equities and possibly well before then if USD or JPY volatility spikes badly.)

Table: FX Board of G10 and CNH trend evolution and strength
The USD and JPY rallies have accelerated steeply in recent days, particularly today, and note that all of the G10 “smalls” save for NZD (due to the tremendous surge in short NZ rates on a more hawkish RBNZ in recent weeks) are quite deeply in the red, while the DM currency “midpoint” here is the euro, and to some degree sterling. The CNH seems always to trade as a low beta USD.

Source: Bloomberg and Saxo Group

Table: FX Board Trend Scoreboard for individual pairs
The JPY pairs are showing extreme readings, led by CADJPY and JPYNOK, with some USD pairs not far behind – note that USDCAD traded a full 8 figures off its lows today, while among recent developments, spot gold making a go at flipping back to the negative side is perhaps the highlight.

Source: Bloomberg and Saxo Group

Upcoming Economic Calendar Highlights (all times GMT)

  • 1400 – US Jul. NAHB Housing Market Index
  • 2330 – Japan Jun. National CPI
  • 0130 – China Rate Announcement
  • 0130 – Australia RBA Minutes of July policy meeting

Disclaimer

The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website. This content is not intended to and does not change or expand on the execution-only service. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.

Please read our disclaimers:
- Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)
- Full disclaimer (https://www.home.saxo/en-gb/legal/disclaimer/saxo-disclaimer)

Saxo Markets
40 Bank Street, 26th floor
E14 5DA
London
United Kingdom

Support Centre
For existing clients, please click here to request support via the Support Centre.

Have a question about our products, platforms or services? Visit the Support Centre to find answers for our most frequently asked questions. If you are still unable to locate an answer to your question, you will also find contact details for your local Saxo office to speak with a representative.

Contact Saxo

Select region

United Kingdom
United Kingdom

Trade Responsibly
All trading carries risk. To help you understand the risks involved we have put together a series of Key Information Documents (KIDs) highlighting the risks and rewards related to each product. Read more
Additional Key Information Documents are available in our trading platform.

Saxo Markets is a registered Trading Name of Saxo Capital Markets UK Ltd (‘SCML’). SCML is authorised and regulated by the Financial Conduct Authority, Firm Reference Number 551422. Registered address: 26th Floor, 40 Bank Street, Canary Wharf, London E14 5DA. Company number 7413871. Registered in England & Wales.

This website, including the information and materials contained in it, are not directed at, or intended for distribution to or use by, any person or entity who is a citizen or resident of or located in the United States, Belgium or any other jurisdiction where such distribution, publication, availability or use would be contrary to applicable law or regulation.

It is important that you understand that with investments, your capital is at risk. Past performance is not a guide to future performance. It is your responsibility to ensure that you make an informed decision about whether or not to invest with us. If you are still unsure if investing is right for you, please seek independent advice. Saxo Markets assumes no liability for any loss sustained from trading in accordance with a recommendation.

Apple, iPad and iPhone are trademarks of Apple Inc., registered in the U.S. and other countries. App Store is a service mark of Apple Inc. Android is a trademark of Google Inc.