Head of FX Strategy
Summary: The market is positioning hopefully for a rapid roll-out of an effective vaccine, figuring that this will trigger a global reflationary boom, and figuring that a weakening US dollar will be a key contributor as a gridlocked US political system leaves only a very dovish Fed as the key actor in providing support for the recovery.
Today’s FX Trading focus:
Is the market trading too far forward?
There is very little new to add, as FX themes are very passive and could remain that way as long as we merely see strong risk sentiment together with a tamed long end of the US yield curve. For example, charting the EURUSD versus an intraday Nasdaq-100 future as I did in the slide deck of this morning’s Saxo Market Call podcast shows that it is difficult to tell the two apart over the last few weeks. The narrative is that we should all look forward to a reflationary boom on the other side of a successful Covid-19 vaccine rollout in coming months, with USD weakness powered by a very accommodative Fed, given the high odds of political gridlock in Washington. Even if the Democrats take the two Georgia run-off seats, the Democratic ability to bring stimulus will be somewhat constrained by centrist Democrats and especially the oddest Democrat of them all, West Virginia’s Joe Manchin.
We suspect the energy and themes in the market might change considerably if long US yields do head higher above 1.00% on the US 10-year and the reflationary narrative does eventually start to play out in the months ahead. On top of that is the question of how quickly the Fed would signal that. The US Treasury may have to issue well north of $2 trillion in net new treasuries next year to finance the government outlays, meaning that the current pace of Fed QE is insufficient. Given that much of US consumption ends up powering external deficits, this is part of the bearish long-term US dollar argument. On that note, Fed Vice Chair Clarida was out speaking yesterday and outlined that the Fed’s policy mix from here would rely heavily on expanding QE if necessary. Some, including the FT, decided that this speech likely included hints at changing the maturity of US treasury purchases, but there was nothing explicit in the speech pointing to that strategy yet, though I likewise see it as inevitable if US 10-year treasury yields pull to perhaps 1.25% or, at highest, 1.50%.
But we are getting ahead of ourselves and for now, it is tough to invest too much into the market narrative driving the US dollar lower in the very near term, when the drivers are based on very uncertainty events down the road (especially the timing portion of a successful vaccine roll-out). Besides the question of ongoing vaccine efficacy and distribution timing, we have to get a lame duck Trump concession, a pair of Georgia run-offs decided in early January (with possible Democratic control of the Senate at stake), and then the priorities of the incoming Biden presidency.
Chart: EURUSD
EURUSD is pushing at the topside once again, as the market waxes hopeful on global recovery down the road fueling demand for EU exports and a weaker US dollar on an accommodative Fed, but there is oh-so-much that could possibly go wrong and the reality on the ground in Europe is terrible at present, with the budget impasse the latest issue for Europe after Hungary and Poland vetoed the budget and recovery package over “rule of law” provisions they find unacceptable. (And despite the two countries benefitting the most, in net terms, from the new budget). What next there? In the meantime, have a hard time seeing EURUSD moving beyond 1.2000 until we see firmer evidence that EU is getting its house and economy in order amid a successful vaccine roll-out.
The G-10 rundown
USD – The US dollar on its back foot as the market prices an easy Fed and political gridlock. US Retail Sales today the US data release of the week.
EUR – not much to like here in broad euro terms (if EURUSD goes higher, would mostly likely be on USD weakness) as the EU remains a political mess for getting decisive action done and Covid-19 will rage away for months to come.
JPY – the yen firming a bit more as the rising US yield threat has backed away for now. The yen gets more interesting across the board if risk sentiment sours again, together with rates backing off lower.
GBP- sterling moving higher, perhaps as markets smell that UK Prime Minister Boris Johnson letting go of his more hard-line ideological advisers means he is ready to go soft on compromise with the EU to get a deal done?
CHF – the price action has gotten more interesting for upside interest in EURCHF, but we need global economic normalization to get interested in a CHF downtrend again.
AUD – If the future plays out as the market hopes, the AUD should prove a star-performer among the G10 in 2021 on a global reflation trade – tactically watching 0.7400+ as the next objective, having noted concerns on the quality of the near-term narrative elsewhere in today’s post.
CAD – the loonie looks better in a normalizing world with higher oil prices than it does at the moment – for upside interest, still need the USD breakthrough lower and 1.3000-1.2950 to fall in USDCAD.
NZD – the less dovish RBNZ was only good for a modest bump in NZD versus AUD – still see long term value in AUDNZD, but may be a strategic rather than a tactical trade – options, anyone?
SEK – the SEK strength is testament to how the market looks through the current reality on the ground, as the SEK only suffers minor turbulence on new covid-19 restrictions on a virus resurgence. If the market can continue to trade on hope rather than reality, 10.00 is possible in EURSEK, but a move above 10.30 suggests near term concern is nixing the krona upside potential for a while longer.
NOK – the recent EURNOK rally rejected at the 200-day moving average (near 10.87) and that resistance needs to hold as the market tries to trade in “fast-forward” mode on the world beyond Covid-19.
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