Head of FX Strategy
Summary: The US dollar and US yields are sharply higher over the last session, even as the Chinese yuan is stronger still. Risk conditions are suggesting max complacency, particularly for EM, driven in part by hopes for a US-China trade deal. But a note of caution for EM traders as the US dollar and US yields firm here. In general, a phase-one trade deal may already be in the price.
An interesting session yesterday for currencies, as the USD strengthened all day despite China taking its currency to new major highs against an already strong greenback and even through the 7.00 level in USDCNY. Most of the stronger USD move was in place even before the stronger than expected ISM non-manufacturing and USD yields are on the rise as well and likely behind a good portion of the stronger US dollar here. The US 10-year benchmark I at new local highs and within a few basis points of the post-cycle low highs posted back in September. At some point, these steeply rising yields and the stronger US dollar will put an end to the strength in global asset markets and strong EM currencies – but where is that point – only north of 2.00%, a clearly pivotal level?
The October US ISM non-manufacturing survey was out yesterday at 54.7, better than the 53.5 expected and a solid jump from the 52.6 in September. It’s too early to tell whether this suggests some modicum of hope for the US economy, as this survey has jagged back and forth month-to-month even as the overall trajectory has been firmly to the downside. At least another month required for a further status check on the consumer.
The CNY has been making waves over the last couple of sessions, largely supportive of emerging market currencies and clearly a sign that China is applying maximum leverage in trying to get Trump to roll back as many tariffs as possible before a deal is reached. Some fret that China may be overplaying its hand here, a very significant risk for this market, given how thoroughly the US-China trade deal already seems in the price. As I noted on Twitter and in this morning’s Market Call podcast, global risk conditions are about as complacent/positive as they have ever been in recent memory.
A weak Q3 employment report out of New Zealand overnight, as the unemployment rate ticked up more aggressively than expected (to 4.2% vs. 4.1% from the prior 3.9%) and the earnings data disappointed. Kiwi on the defensive here across the board.
Chart: EURUSD
EURUSD reversed hard yesterday, in part inspired perhaps by the strong rise in US yields and hopes that the US economy will avoid a recession. It’s an uncomfortable spot for EURUSD bulls who were looking at the critical medium-term upside pivots just two sessions ago and now staring down the local downside pivots. The recent rally was large enough that the move higher is not yet in danger, but a close below the 1.1000 level – not only a psychological level but also near the 61.8% Fibo of the recent rally wave – begins to suggest a wipeout for bullish hopes.
The G-10 rundown
USD – the bounce in the US dollar not breaking anything just yet, but it won’t take a lot more to change the narrative. We also wonder if EM can sustain its recent strength as hard to imagine USDCNY falling materially below 7.00 and any further rise in US long rates (anything beyond 2.00% level in US 10-year) might begin to weigh.
EUR – As mentioned above, the sell-off a setback but not yet a game-changer for the EURUSD bulls. US-China trade deal disappointment a risk for the failure of the late rally.
JPY – USDJPY watching US yields with both eyes – where the 1.90-2.00% level must remain capped for USDJPY to remain well south of 110.00. Given extreme complacency, trade deal disappointment and sharply lower yields would likely see a JPY cross wipeout.
GBP – sterling edging to the strong side versus a weaker Euro, but GBPUSD still well capped. How does BoE deliver anything worth reacting to tomorrow? Nigel Farage’s Brexit is set to field candidates at the December election, but the Telegraph reports that he may focus chiefly on Labour seats and may avoid putting up candidates in districts with Tory euro-skeptic candidates.
CHF – no signal here – but a curious lack of upside given the all out risk melt-up and higher yields.
AUD – AUDUSD indeterminate here – strong in crosses on stronger CNY and hopes for trade deal, but still stuck in neutral versus the US dollar.
CAD – USDCAD is stuck in neutral and looking pivotal only below 1.3000 or above 1.3200, with support from the Bank of Canada’s recent dovish shift requiring considerable “new news” to overcome.
NZD – a disappointment in NZ employment data sets the AUDNZD bull market potential back in motion – watching the close today for whether this can extend higher to next resistance levels
SEK – EURSEK still trading heavily and the backdrop supportive if hopes for a global growth bounce extend from here - Swedish short rates to new local highs.
NOK – Norway’s short rates also extending aggressively higher and oil also supportive for NOK – pressure remains for a EURNOK sell-off to extend if seasonality issues can be overcome here. More profound reversal in EURNOK only if it can work down through 10.05-00.
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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.
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