Head of FX Strategy
Summary: The biggest mover in FX remains the Japanese yen, which continues its nosedive on the twin threat of widening yield differentials and a seismic shift to the negative in the Japanese current account due to rising energy prices. Elsewhere, emerging market currencies are absorbing the large shift higher in US yields well as they maintain more real-interest-rate credibility in many cases than the Fed due to significant rate tightening already in the bag.
FX Trading focus: JPY continues to runaway to the downside, end of quarter/Japanese financial year approaches
USDJPY rose further to as high as 121.75 this morning and thus to the highest levels since 2015 as yields poked back higher in early trading in Europe after a retreat yesterday and as oil prices are spiking back higher again (Japan extremely reliant on energy imports). Tokyo narrowly avoided a power blackout on Tuesday and the country is turning its back on Russian crude oil and LNG imports, which will force it to bid up cargoes from alternative sources. As Australia is the world’s largest exporter of LNG and a prominent exporter of other important commodities, including the War-in-Ukraine impacted wheat, the AUDJPY pair has been in focus, rising some Adding insult to injury, North Korea has been out testing missiles overnight, with Japan deeming that the latest test was of an ICBM that flew some 6,000 kilometers. This would be the first ICBM test since 2017. As we noted in this morning’s Saxo Market Call podcast, it is important to keep in mind that bond funds have suffered some of their worst drawdowns in history, which due to portfolio effects could bring some significant rebalancing flows into the end of the quarter and the end of the financial year in Japan on March 31. Last night, the US 20-year Treasury auction was very strong.
Norway’s Norges Bank was out largely confirming what the market has priced in recently, and perhaps hawkish at the margin. The bank hiked rate 0.25% as expected to take the policy rate to 0.75% and flagged another (“most likely”) rate hike in June. The longer term rate forecast was raised to perhaps the higher end of expectations: to 2.5% for the end of 2023 vs. 1.75% in December. The “underlying” CPI forecasts are for 2.5% for this year, 2.4% for next and 2.5% for 2024, versus 1.7%, 2.0%, & 2.0% previously. The GDP forecast for 2022 was raised to 4.1% versus 3.5% previously, but the 2023 forecast was lowered to 1.6% from 2.0%. EURNOK is solidly lower on the day.
Mexican central bank and South African Reserve Bank up today. EM currencies have generally strengthened over the last two weeks as the market has decided that, despite hefty rises in US treasury yields, the Fed remains behind the curve and US yields highly negative, while EM central banks have generally been hard at work in tightening policy to counter inflationary risks. Mexico’s central bank expected to hike 50 basis points to take the rate to 6.5% (contrast that with the 0.25-0.50% Fed funds rate with the most recent inflation figures from Mexico running practically on par with the US CPI figures.) The SARB is expected to hike 25 basis points as USDZAR slips to new lows since last October.
The Russian ruble posted a strong recovery yesterday after Russian leader Putin demanded that sanctioning countries pay for natural gas imports in rubles. This saw a new spike in European gas prices and a firming of the Russian ruble by some 7% as market participants scrambled to understand the implications of the move, whether it is a breach of contract, as well as how rubles can be sourced. It is also an odd move in that it would reduce Russia’s inflow of foreign currencies for paying for other imports – although Russia largely can’t access its own foreign FX reserves due to the sanctions against the Russian Central Bank.
Chart: EURUSD
EURUSD has gone largely quiet in recent session as the focus has been on the JPY and the impact of commodity. There is certainly a commodity price-vulnerability angle in Europe, with the EURUSD perhaps ticking lower yesterday on the fresh surge in energy prices and Putin demanding that sanctioning countries pay for Russian gas in rubles. US President Biden is in Europe, meeting with NATO, EU, and G-7 leaders, with a coordinated plan said in the works this week to move Europe further away from Russian energy imports. The EURUSD price action trying to cling to 1.1000 and might slip back toward the 1.0800 lows if we see another aggravated energy price spike, but still looking for signs that EURUSD is set to rally on the fiscal outlook for Europe. The key technical area for establishing upside hopes it is the 1.1125-1.1200 zone. The flash March Euro zone PMI’s out this morning look remarkably resilient, given the backdrop.
Table: FX Board of G10 and CNH trend evolution and strength.
The JPY weakness reading is remarkable at worse than -10 here. Yes, it can continue to extend further, but requires constant feeding from rising energy price and/or rising yields. Elsewhere, the AUD and perhaps somewhat unfairly, the NZD are at the top of the heap. NZD rates are supportive, but the country’s terms of trade have been negatively impacted by the spike in energy prices.
Table: FX Board Trend Scoreboard for individual pairs.
Not putting much into the EURCHF flipping to the negative just yet as the pair recently posted a major recovery from the parity level. The next flip positive there could prove interesting. Gold is trying to get something going again – which makes sense as long as we have the narrative that the Fed remains behind the curve.
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Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
