Head of FX Strategy
Summary: The steepest equity rally in years in China has seen muted positive contagion around the world, at least in part as the CNY remains locked in a tight range near a perceived floor. Elsewhere, a brightening mood on Italy’s budget has boosted the euro again despite Moody’s downgrade of Italian debt on Friday. The week sees a blitz of central bank decisions.
China moved over the weekend to reassure the domestic market, as Xi Jinping offered “unwavering” rhetorical support for the private sector and the presentation of a draft of proposed tax deductions for private individuals for costs including interest on mortgages, education and health care. While Chinese equities surged strongly on the news – the largest rally in years – there was no transmission into the CNY, which remains glued to the floor in both basket and USDCNY terms. That floor is a key reason behind extremely low realised FX volatility, in our view.
Italy’s BTP yields dropped further after late Friday developments. Most importantly, the euro surged on the change of tone from the key EU Commission figure Pierre Moscovici, who expressed a desire to reduce tension with Italy. This change of tone is short on specifics, but the shift was seized on as a critical development showing that the EU has finally “blinked”.
One might argue that it is in the EU’s interest to avoid a populist surge at the EU parliamentary elections next May and wait until next year to take up the budget and deficit issue again if and when the Italian government’s deficit maths prove to have been overoptimistic. Regardless, the hopeful surge looks a bit tenuous until we see further progress, and the Italian side still says that it expects the EU to take the unprecedented step of rejecting Italy’s budget on Tuesday. Finally on the issue, Italy’s sovereign debt was downgraded to one step above junk by Moody’s very late Friday, though the headline is not necessarily a negative catalyst given that many feared a deeper ratings cut.
This week’s economic calendar is populated with a rash of central bank meetings. Tomorrow’s Riksbank looks pivotal for SEK due to the technical situation for EURSEK (more below) and the Riksbank’s latest guidance, though existential EU headline risks are also an important driver for the pair. Elsewhere, the Bank of Canada decision looks important as governor Poloz and company are expected to hike rates again. Two big EM central bank meetings this week are Turkey on Thursday and Russia on Friday. In Turkey, the central bank there will need to gauge whether sentiment and confidence have improved enough to signal an eventual move to cut rates. Too early to expect anything this week.
The two things we focus on most these days for next steps are the USDCNY rate and which side of the 200-day moving average the US S&P 500 Index is trading on. That index closed precisely on that level once again on Friday.
EURCHF poised near the pivotal 1.1500 level on hopes that we are about to see a significant thaw in the showdown over Italy’s proposed budget. To engineer a solid surge and close above this pivotal level, we may need further concrete signs that Italy and the EU can agree on budget terms.