Head of FX Strategy
Summary: Bond yields continue to rise along with crude oil prices, driving mixed action in currencies. NOK is begrudgingly rising to the top this morning while the only clear loser for the moment is the Japanese yen where the Bank of Japan’s yield-curve-control policy risks explosively volatile consequences.
UK prime minister May’s path to negotiating a Brexit deal that is agreeable to her own party members, the Labour party, and the European Union looks more unattainable by the day in the rapidly closing time window into next March’s deadline. The latest is that Labour intends to announce today its intent to vote against any deal that May comes up with as it sees such a deal as unlikely to meet its standards. The last hope for May, then, is the unlikely combination of a deal that either caters to more Labour votes and the less hard-line Brexiters within her own party.
Labour representatives specifically stated that they will vote against a “vague deal” that “asks us to jump blindfolded into the unknown”. It looks increasingly likely this ends in an either an extension of the negotiating period and possibly an election and eventual second referendum or even all three. It would certainly prove most productive, before any new election or referendum is called, however, to have a clear delineation of exactly what voters are voting for, something that was not at all clear when the June 2016 referendum took place. Hard to see sterling piecing together a sustained rally with this untenable situation as a backdrop.
We identified the Federal Open Market Committee meeting tomorrow and potential Iran-linked geopolitical developments as two key drivers this week, but bond markets are doing their best to drive global asset markets as the week gets underway, with the entire US yield curve continuing to lift and the US 10-year yield coming within striking distance of the seven year highs above 3.1% established earlier this year.
Already, the current 10-year yield is nearly five basis point above the highest weekly close from that brief spike higher in yields. The rise in US yields seems to support the US dollar for now, especially versus the JPY, with the critical test lying just ahead over tomorrow’s FOMC meeting. I suspect the median forecasts for 2019 are raised about 25 basis points without raising the longer-term forecast.
ECB president Draghi was out speaking yesterday and noted that he saw signs of a “relatively vigorous” pickup in underlying inflation, briefly triggering a sharp euro rally as EU bond yields jumped in response. But the really didn’t stick well, even as the rise in bond yields did.
USDJPY is perched just below the cycle high of 113.17. We remind readers of a recent update in which we touted the risk that the price action in JPY crosses could get a bit “explosive” from here as the JGB yields at the two- to 10-year maturities won’t mimic any rise in yields elsewhere in the world if the BoJ remains firm in its commitment to yield curve control as the 10-year JGBs push up against the supposed 15 basis point cap. That means the yen will tend to absorb any further pressure higher in global bond yields until the BoJ is seen as “blinking” and potentially triggering an avalanche to the downside after a steep ascent. Long volatility trades one way to approach the situation and limit risk. The next area to the upside here in USDJPY is the 114.50-115.00 zone if the FOMC meeting supports the US dollar and US yields.
USD – higher US yields are somewhat less USD-positive if risk appetite can manage to remain stable and the rise in yields elsewhere can keep pace, but we will have a better read on the market’s thinking on the other side of tomorrow’s FOMC meeting.
EUR – disappointing for euro bulls yesterday that a chunky rise in yields on Draghi comments and a move up through pivotal levels on the 10-year German bund chart (50 basis points) didn’t sustain a more convincing rally in EURUSD – either traders are shy to take a position ahead of tomorrow’s FOMC meeting, or the spreads need to actually tighten in the euro’s favour to engineer a stronger euro rally.
JPY – as noted above, rising global bond yields feeding directly into a weaker JPY as long as JGB yields are capped out to 10 years until the BoJ indicates otherwise.
GBP – price action likely choppy and uncertain as we await the spin on this coming weekend’s Conservative party pow-wow.
CHF – the franc lower and EURCHF looking higher as bond yields pick up. The rally looks tradeable for an attempt up into the 1.1450-1.1500 zone.
AUD – the pivot zone in AUDUSD on the way up in the 0.7250-0.7200 area is now the tactical downside pivot. We have our longer-term concerns centred on Australia’s credit cycle, but commodities developments have been positive over the last two weeks.
CAD – the range lows in USDCAD holding for now until we have a look at the FOMC meeting and Powell press conference – fairly weak performance for CAD given the development in energy markets, but the US-Canada 2-year yield spreads have traded slightly in the USD’s favour from the lows in August.
NZD – waiting for whether the recent risk bounce to show signs of having legs and for the RBNZ a few hours after the FOMC tomorrow evening (for those of us in Europe). The bar is very high for a hawkish turn from RBNZ chief Orr.
SEK – rising Swedish rates outpacing the rise in Europe, and EURSEK trades heavily – can we take out the 200-day moving average at 10.22 and proceed to test the 10.00 area or is that asking too much – Riksbank looking at a +9.3% year-on-year PPI this morning – highest in 23 years!
NOK – we like NOK here as Brent trades to new highs above 80 dollars a barrel and in NOK terms, as high as the average range during 2011-2014.
Upcoming Economic Calendar Highlights (all times GMT)
• 0900 – Norway Norges Bank’s Olsen to Speak
• 1045 – ECB’s Praet to Speak
• 1230 – ECB’s Praet to Speak
• 1300 – US Jul. S&P CoreLogic Home Price Index
• 1400 – US Sep. Richmond Fed Manufacturing Index
• 1400 – US Sep. Conference Board Consumer Confidence
• 1600 – ECB’s Coeure to Speak
• 2245 – New Zealand Aug. Trade Balance