Quarterly Outlook
Equity outlook: The high cost of global fragmentation for US portfolios
Charu Chanana
Chief Investment Strategist
FX Update: A debt ceiling solution would likely boost USD.
John J. Hardy
Global Head of Macro Strategy
Summary: The US dollar suffered a modest setback on the collapse of US debt ceiling talks Friday, but across markets, the market looks complacent on the issue, although some of the recent USD strength may be the recognition that once we do get an agreement to lift the debt ceiling, liquidity across markets could prove a challenge as the US treasury rebuilds its reserves. Side-plots this week include the RBNZ meeting Wednesday and UK CPI up Wednesday.
Today's Saxo Market Call podcast
FX Trading focus:
- USD and the scenario post-raising of the debt ceiling. Headline risks until a deal is done.
- Mixed evidence on how seriously market is taking the forward risks on debt ceiling standoff ending and eventual US recession.
- Next up this week are RBNZ and UK CPI
Trading and bias notes:
- USD: lots of headline risk on debt ceiling issue this week, a firm deal in place, even if a stop gap will likely see challenging USD liquidity conditions on the US treasury rebuilding its reserves with an issuance blitz, which is USD supportive. USDCHF may be one of the highest beta pairs on US debt ceiling outcomes. Also, USDCNH sold off on some verbal intervention from China, but looks ready for further gains toward 7.15 after bouncing smartly today.
- NZD: Big test for NZD traders this week on RBNZ and whether it rewards new long positions with hawkish guidance. AUDNZD has broken down as long as it stays south of 1.0600 post-RBNZ, while NZDUSD is near last-gasp resistance into 0.6300 area, needing an RBNZ disappointment for downside traction.
- GBPUSD: the downside momentum is poor, but shorts from last week are sitting on better than break-even area risk with stops just above 1.2500. UK CPI Wednesday morning is the next step.
- USDJPY: was batted back down on Friday after a surge above resistance, with US long treasury yields the key coincident indicator. Eyeing 140.00+ if 137.50-137.00 continues to support.
USD and eventual debt ceiling deal
The USD rally was partially checked on the announcement Friday that debt ceiling talks had collapsed. We discussed last week that a deal to lift the ceiling could drive considerable USD strength due to the need for the US treasury to rebuild its reserves to the tune of perhaps half a trillion USD. It feels like an exercise in futility to discuss the latest debt ceiling talk developments, as the sense of compromise that was in circulation late last week evaporated entirely on Friday. With Biden back in Washington after the G7 trip to Japan, direct talks between the White House and House speaker McCarthy are set to resume today. Time is drawing short ahead of the supposed June 1 crunch time that Treasury Secretary Yellen has laid out, with the US Senate not even in session this week and the House only meeting through Thursday before a long Memorial Day weekend, returning next Tuesday, May 30.
The run higher in the Swiss franc may reflect debt ceiling concerns as it is worth noting EURCHF has taken out the 0.9700 area in today’s trade after a jerk lower late Friday on the collapse of US debt ceiling talks. The 0.9000 area in USDCHF has also given way and that pair may be one of the highest beta pairs to an actual deal being announced for those wishing to trade outcomes on the issue.
Chart: USDJPY
The evidence is mixed on how seriously the market is taking the US debt ceiling issue itself, as well as the implications for global liquidity presuming a deal is announced. On the one hand, the US dollar and long US treasury yields backing up might suggest that there is growing recognition afoot that a solution could bring a liquidity pinch for a time across global markets as the US treasury rebuilds its account. Those higher long US yields certainly seem to be a driver of USDJPY upside, with a test higher still ahead if the US 30-year T-bond can clear 4.00% and the 10-year remains above 3.65%. On the other hand, broad risk sentiment globally looks very complacent, so attribution to what has driven the USD and US treasury yields higher is unclear until we finally get a deal in place. Interesting to note the similar and perhaps even more intense reactivity to the debt ceiling news flow in USDCHF, as discussed above. Complicating the liquidity issue is the forward outlook for the US economy, which could temper any rise in longer yields if data continues to weaken, though it is a slow week for macro data.
RBNZ up Wednesday as market reacts to inflation expectations survey.
The kiwi found further strength overnight and broke higher versus the Aussie on the release of a Q2 RBNZ inflation expectations survey which showed the surveyed expecting 6% wage gains and 7.4% price inflation in the coming year, versus 7.0% for the latter in Q1. (The usefulness of these surveys highly questionable – according to that same survey, 2-year inflation expectations are at 4.5%, while 5-year ahead are at 1.1%!) This after a different Q2 survey less than two weeks ago showed lower inflation expectations than expected. In any case, AUDNZD managed to clear 1.0600 and traded at its lowest since December. It is tough to argue that the RBNZ expectations can be guided significantly higher in relative terms to other central banks with the forward curve inching toward a 6.00% terminal rate. The market respects the RBNZ after the surprise 50-bps hike in April to take the rate to 5.25%. Most are looking for a 25 basis point hike this week and a bit more than one further small hike in coming meetings. If this week’s RBNZ meeting surprises hawkish, it could drive one last leg of NZD strength, but the bar to surprise hawkish is probably at a 50-basis point hike. A 25 basis point hike and two-day guidance would be the dovish surprise.
Eurozone flash PMI data up tomorrow, UK CPI Wednesday.
The flash May PMI for Europe and much of the rest of the world are up for now after the European economy has gotten a boost from the fiscal spend to deal with new spending priorities to shore up the risks from soaring energy prices and national security emergency from Russia’s invading Ukraine. A collapse in energy prices since last year has provided about as much support as it can, meanwhile. The divergence is extreme between the Services sector rebound and the ugly state of affairs in European manufacturing.
UK CPI is up on Wednesday and could finally get sterling on the move after EURGBP has settled in no-man’s-land below 0.8700 with no momentum. The market has priced almost two more rate hikes from the BoE this year. The May claims and payrolls data will be far more interesting in the weeks ahead than this week’s CPI print after some eyebrow raising numbers, particularly for payrolls, in April.
Table: FX Board of G10 and CNH trend evolution and strength.
The US dollar consolidating a bit here and we really need concrete developments on the debt ceiling situation to know where we stand. NZD standing tall and needing confirmation from RBNZ on Wednesday to justify its levels.
Table: FX Board Trend Scoreboard for individual pairs.
For USD pairs – would like to see other side of debt ceiling deal for next steps. NZD pairs getting a big test with RBNZ Wednesday. GBP pairs could be pivotal on UK CPI on Wednesday.
Upcoming Economic Calendar Highlights (All times GMT)
- 1230 – US Fed’s Bullard (non-voter) to speak
- 0030 – Japan Flash May Manufacturing and Services PMI
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