Head of FX Strategy
Summary: The US dollar pulled to new highs for the cycle, but the move has seen only the most modest of pick-ups in market energy after recent record lows in options implied volatility measures. Interesting to see the degree to which Democrats take up the opportunity to get political in questioning why the Powell Fed is exploding its balance sheet again.
Trading interest
Developments
The US dollar closed last week on a new high note for the cycle in the wake of a strong January jobs report, as the official NFP change number was above 200k and the unemployment trate only ticked up slightly on the positive change in the participation rate. (Shhh, the market doesn’t want to talk about the negative 500k revisions to the Apr 2018 to March 2019 payrolls numbers and the fact that a significant percentage of every report is conjure from thin air….).
US Fed Chair Powell’s semiannual testimony is set for Tuesday before a House committee and Wednesday before a Senate committee. The prepared remarks on the economy and the Fed’s policy mix was released with little fanfare on Friday and the more interesting spin this week will be whether Fed policy is becoming politicized after the Fed’s turnaround in 2019 on interest rates and its aggressive re-inflation of its balance sheet has clearly engineered the tremendous run-up in equity prices and Donald Trump’s non-stop anticipated victory jigs. Democratic senators have already officially inquired into the Fed’s repo operations head of Powell’s testimony.
The Russian central bank went ahead and cut rates again as most expected and was happy to continue to signal an easing bias, apparently feeling that support to the Russian economy – under increasing strain as oil prices have collapsed on coronavirus fears – rather than worrying about the ruble level, which dipped hard on Friday in response and is a bit firmer this morning as USDRUB mulls whether to break the 200-day moving average.
An interesting week ahead for the kiwi as the RBNZ is set to announce the official cash rate on Wednesday with apparently universal expectations that Orr and company stand pat at the 1.00% policy rate. I see room for either a rate cut or the expression of a bias to cut on the ongoing coronavirus concerns. NZ Prime Minister Ardern was out overnight fretting the risk to NZ GDP from the virus outbreak and Orr has a history of liking to surprise the market. In any case, surprises only look possible in the dovish direction.
Chart: AUDUSD
AUDUSD closed at a new low for the cycle and touched its lowest level in more than a decade on Friday as the market tilted into the weekend with a cautious stance on ongoing coronavirus concerns. Given that commodities markets have born the brunt of the negative fallout from the situation, it’s no surprise to see the AUD struggling down at these levels against a firming US dollar. Prices for key Australian commodities like iron ore have stabilized over the last few days, but it is clear that the sense of ongoing disruption needs to improve markedly to suggest that this is a false break lower.
The G-10 rundown
USD – continues to grind stronger – watching this week for Powell testimony before Congress and whether this creates any ripples.
EUR – EURUSD running out of room ahead of the cycle lows and we have strong concerns on the EU economy. Germany reported -8.7% year-on-year for Industrial Production in December on Friday, before any impact from the coronavirus, and Italy reported Industrial Production at -4.3% year-on-year for December.
JPY – the yen sluggish within the range here and only has a chance to raise eyebrows on a clean risk-off sweep (lower equities, lower safe haven bond yields).
GBP – sterling struggling as the EU has taken a tough line on trade deal negotiations and we still have another month’s wait for the UK budget, with the hope from sterling bulls that the confidence bounceback in the wake of the December election will show legs.
CHF – the EURCHF pair is dead in the water – looks bearish that such a steady run lower has shown such shallow consolidation. Defaulting to the view that CHF is lower beta to risk-on/risk-off behavior than JPY.
AUD – watching the commodity space and coronavirus fallout as the main factor here. Looks like the RBA wants to retain all further policy easing for damage control rather than as a prophylactic.
CAD – USDCAD pushing into the last shreds of the local range above 1.3330 on Friday, but has a bit more work to do to make a larger break – starting with the 1.3500-6 zone.
NZD – again, downside risks on a dovish tilt from the RBNZ this week, which could prove a wakeup moment in NZD crosses, especially now that NZDUSD broke badly lower yesterday.
SEK – a smart technical reversal in EURSEK s the attach through the 10.60-65 area has been rebuffed . But we need more traction on the EU and Swedish economic and fiscal policy outlooks to argue for a bigger SEK rally.
NOK – NOK trying to find its feet this morning after a blowout CPI number (leaping to 2.9% year-on-year for the core in January from 1.8% prior) as the country’s inflation levels are very sensitive to currency effects. But without a bigger boost to crude oil and durable removal of coronavirus concerns, NOK may be stuck in neutral or worse.
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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.
