FX Update: Oops, what if inflation is running hot everywhere? FX Update: Oops, what if inflation is running hot everywhere? FX Update: Oops, what if inflation is running hot everywhere?

FX Update: Oops, what if inflation is running hot everywhere?

Forex 5 minutes to read
John Hardy

Head of FX Strategy

Summary:  EURUSD continues to coil around just above the pivotal 1.2000 on a day that saw the hottest core CPI reading out of the EU in almost five years, and that before we see the basing effects of the collapsing prices in the spring of last year. Today we look at whether the inflation genie out of the bottle everywhere is less bearish for the US dollar and look at one indicator possibly suggesting that the JPY is getting unjustifiably weak.

FX Trading focus: While EURUSD eyes 1.2000, EU inflation comes in hot

Today’s EU inflation print generated significant attention, with the +0.9% year-on-year headline reading far north of the +0.6% expected and the core inflation hit a “heady” 1.4% versus +0.9% expected, the highest reading since last 2015. It is difficult to know how much to read into this data point, coming as it does amidst the region’s comprehensive virus lockdowns. Some of the factors, like a reversion in the German VAT at the beginning of the year to its pre-Covid level, are clear one-offs that boosted inflation for the month, while others, in particular the enormous spike in container shipping prices, may persist, although at multiple of historic norms, it is hard to conceive that shipping prices can continue to rise at anything approaching their recent pace.

Still, the shift higher in inflation comes even ahead of the basing effects of March and April of last year, when the virus impact crushed commodity prices and inflation gauges, and it fits with a pattern of inflation seemingly running hot everywhere (even in Japan, the Jan. prints for Tokyo CPI picked up to a positive level YoY). The key will be in whether a gush of personal savings and pent-up demand hit the economy as normalization of activity picks up, and especially whether under-investment in black energy will see the supply buffer quickly disappear and possibly drive oil prices much higher.

For FX, the question is then whether inflation become more globalized and not somewhat more concentrated to the US on its outsized fiscal response and anticipation of more negative rates there – that has been a pillar of the USD bear case. From here, it will be especially worth our while to note the relative real interest rate developments (policy and even 10 year yields less inflation) as a fundamental driver. If the US 10-year stays near 1% and US core CPI rises to 2.5%, that still looks better than a Euro Zone core inflation of 1.5% and German Bund yield of -0.5%. To be sure, if activity is normalizing and the Fed fails to signal greater QE or a yield-cap policy, without an increasing portion of savings, domestic or foreign, heading into US treasuries, US long yields will have to go higher.

Of course, there is also the current account angle, where the US suffers persistent deficits while the Euro Zone, for example, runs a surplus, but how the capital account shifts in one direction as it must to offset the current account will in part be determined by the real risk free returns available  in any region.

EURUSD is clearly mulling whether to have a look below the 1.2000 level here, the psychological pivot point for this trend, although a more critical medium term level might be the 1.1890 area 61.8% Fibo retracement of the rally wave  from the November lows. On the flip-side – a quick sharp rally back above perhaps 1.2100 needed to indicate that this has been a false downside break.

Source: Saxo Group

The JPY and yields
I have long maintained that the most important focus for the JPY in terms of its “safe haven” status is in watching the long end of the US yield curve far more than risk sentiment, for example, in equity markets. But as Kit Juckes, the great FX analyst over at SocGen, reminded me in his piece today, long US yields have proved a sorry indicator for at least a few months and might indicate that this will continue to be the case. I think in the near term the rising yields in the US have played a part in the JPY trading weakly, but that in the background, a better safe have indicator is more likely to be something like emerging market spreads, as the legendary Japanese saver has historically often been more interested in investing in bonds, and therefore carry,  than in equities. On that note, we can see that the general JPY weakness since the pandemic panic fits quite well with the ongoing crush lower in EM credit spreads as discussed in the chart below, but recent developments look a bit over the top (JPY too weak?).

Chart: JPY versus EM credit spreads.
This chart shows the JP Morgan real effective Japanese yen versus a JP Morgan of EM credit spreads. Two things to note: the directional sympathy of the two and the quite cheap level of the JPY. If central banks continue to prevent price  discovery in credit, turbulence in other financial markets may offer little support for the JPY, but if EM currencies themselves back up badly, especially together with any new notable spread widening in EM credit, the JPY could be in for a significant rally, given its current valuation and the risk that positions have gotten somewhat aggressive after a very long run in favour of these kinds of carry trades.

    Source: Bloomberg

    SuperMario as Italian Prime Minister makes for interesting EU politics.
    Will follow up more on the Saxo Market Call with our resident Italian fixed income strategist and Italian native Althea Spinozzi, but it is a fascinating development to see former ECB president Mario Draghi called on to create a new technocratic Italian government. In an EU context, Draghi has to be one of the most persuasive voices to get things done for Italy by EU institutions if anything more can be done on Italy’s behalf, as he is the only identifiable candidate with the necessary weight and charisma. Italian 10-year yields are still 100 bps north of those for Germany – will Draghi be able to help crush these further?


    The Saxo Group entities each provide execution-only service, and access to analysis permitting a person to view and/or use content available on or via the website is not intended to and does not change or expand on this. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Inspiration Disclaimer and (v) Notices applying to Trade Inspiration, Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular, no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.

    Please read our disclaimers:
    Notification on Non-Independent Investment Research (https://www.home.saxo/legal/niird/notification)
    Full disclaimer (https://www.home.saxo/en-sg/legal/disclaimer/saxo-disclaimer)

    None of the information contained here constitutes an offer to purchase or sell a financial instrument, or to make any investments. Saxo Markets does not take into account your personal investment objectives or financial situation and makes no representation and assumes no liability as to the accuracy or completeness of the information nor for any loss arising from any investment made in reliance of this presentation. Any opinions made are subject to change and may be personal to the author. These may not necessarily reflect the opinion of Saxo Markets or its affiliates.

    Saxo Markets
    88 Market Street
    CapitaSpring #31-01
    Singapore 048948

    Contact Saxo

    Select region


    Saxo Capital Markets Pte Ltd ('Saxo Markets') is a company authorised and regulated by the Monetary Authority of Singapore (MAS) [Co. Reg. No.: 200601141M ] and is a wholly owned subsidiary of Saxo Bank A/S, headquartered in Denmark. Please refer to our General Business Terms & Risk Warning to consider whether acquiring or continuing to hold financial products is suitable for you, prior to opening an account and investing in a financial product.

    Trading in financial instruments carries various risks, and is not suitable for all investors. Please seek expert advice, and always ensure that you fully understand these risks before trading. Trading in leveraged products such as Margin FX products may result in your losses exceeding your initial deposits. Saxo Markets does not provide financial advice, any information available on this website is ‘general’ in nature and for informational purposes only. Saxo Markets does not take into account an individual’s needs, objectives or financial situation.

    The Saxo trading platform has received numerous awards and recognition. For details of these awards and information on awards visit www.home.saxo/en-sg/about-us/awards.

    The information or the products and services referred to on this website may be accessed worldwide, however is only intended for distribution to and use by recipients located in countries where such use does not constitute a violation of applicable legislation or regulations. Products and Services offered on this website are not intended for residents of the United States, Malaysia and Japan. Please click here to view our full disclaimer.

    This advertisement has not been reviewed by the Monetary Authority of Singapore.

    Apple and the Apple logo are trademarks of Apple Inc, registered in the US and other countries and regions. App Store is a service mark of Apple Inc. Google Play and the Google Play logo are trademarks of Google LLC.