FX Update: USDCNH our chief focus this week.

US-China tensions are taking most of our bandwidth at the moment, particularly as these have been accompanied by a strong move higher in USDCNH to just short of the Covid19 crisis high overnight. US President Trump has made a number of more negative comments on China’s handling of the virus outbreak since late last week and has brought in the threat of tariffs once again. US Secretary of State Pompeo has made even more pointed comments and claims of evidence that China was negligent, and a Republican playbook on how to drum up voter support for the 2020 election cycle with China-bashing has added to the sense that US-China tensions are back to stay and could get worse. The first order of business will be any message China sends via the onshore CNY exchange rate when the country’s markets come back from holiday on Wednesday. The 7.20 level in USDCNY is the line in the sand for whether a lid is kept on this issue. The AUD has been particularly sensitive to CNH moves over the last few session.

The rather strong euro in the wake of the ECB meeting and to close the week last week has looked rather odd. We argued at the time that there was no evidence that the ECB’s new measures last week drove this rally – on the contrary. At the margin, there may have been a lifting of speculative euro shorts as there was no immediate fallout from the EU council meetings on recovery aid, but US futures positioning point to a very large net long speculative position in euro, with nothing on the chart to suggest why speculators there have built such a large position (normally, positioning is highly correlated with chart trends.)

Positioning aside, there was clear evidence that the change to risk sentiment into a more steeply negative tendency coincided precisely with the timing of the sudden jolt higher in the euro. For now, we will file this move under the category of “hmmm” as we see no reason to support a marked Euro rally unless the driver is that the ECB policy mix on its balance sheet expansion looks modest compared to the Fed’s more aggressive moves. This was a pattern post-GFC as well, with the ECB’s very tardy move into ”proper QE” not coming until early 2015 (as opposed to temporary expansions of the balance sheet via LTROS that quickly saw the ECB’s balance sheet subsequently shrink as banks saw no reason to extend these loans once market conditions had clamed in 2013 and 2014.)

Chart: AUDUSD
The AUDUSD rally has reversed sharply from the peak in risk sentiment from mid last week and has now broken down through the key 0.6450 area. The USDCNH really move late last week is bringing in concerns that China could allow the renminbi to slip to new lows versus a surging US dollar, as markets recall how much uncertainty moves int eh renminbi have generated in the past, most notably in late 2015. Action this morning at one point, in which the AUDUSD traded back toward session highs even as major equity markets were under a bit more pressure at that time point to considerable sensitivity to USDCNH at the moment as the latter was back toward the session lows. The mix of CNH moves and risk sentiment will determine whether the Aussie is at risk of a new cycle of pressure.