XE Market Analysis: Europe - Oct 07, 2020

The dollar has come off the boil after rallying during the New York afternoon when President Trump abruptly called off talks with the Democrats on further fiscal aid until after the election. This catalysed a bout of risk-off positioning, which featured dollar and yen buying in currency markets. Trump subsequently tweeted that he is ready to approve support for airlines (totalling $25 bln), wage protection ($135 bln) and a $1,200 stimulus check, which helped revive spirits in markets to a degree, which saw the dollar lose upside traction and the yen soften. The USD index (DXY) edged out a high at 93.90, which is its best level since last Friday, while EUR-USD concurrently whittled out a two-day low at 1.1725 before lifting back above 1.1750. USD-JPY recouped from yesterday's dip to a 105.47 low and has so far today been plying a narrow range in the mid-to-upper 105.00s. Most yen crosses declined yesterday, though the risk-sensitive AUD-JPY managed today to recover some lost ground after dropping quite sharply. AUD-USD rebounded to a high at 0.7131 after yesterday printing an eight-day low at 0.7096, which had been the product of a 1%-plus decline that was seen after the RBA laid the groundwork for a rate cut at its next meeting in early November. The pound lifted after underperforming yesterday. Cable posted a high at 1.2907, up from yesterday's 1.2867 low but remaining well off yesterday's highs just above 1.3000. We remain bearish of the pound, even in the scenario that the EU and UK strike a trade deal, as this would still result in a deterioration in the UK's trading position. A Bloomberg article yesterday highlighted the steady stream of financial services resources that are being moved out of the UK to the Eurozone, and the fact that even with a trade deal in place, London will likely continue to lose business to the continent as the "equivalence" regime on rules would leave firms with long-term uncertainty. We are also bearish on the dollar, although this hinges on a sustained recovery in risk appetite, which looks unlikely at this time given the risk of next month's presidential election being contested and with new Covid restrictions and lockdowns being implemented in North America and Europe.

[EUR, USD]
EUR-USD recovered back above 1.1750 after earlier whittling out a two-day low at 1.1725. The dollar had found safe haven bids after President Trump abruptly called off talks with the Democrats on further fiscal aid until after the election. This catalysed a bout of risk-off positioning, which featured dollar and yen buying in currency markets. Trump subsequently tweeted that he is ready to approve support for airlines (totalling $25 bln), wage protection ($135 bln) and a $1,200 stimulus check, which helped revive spirits in markets to a degree, which saw the dollar lose upside traction and the yen soften. Uncertainties prevail: about U.S. fiscal policy, about next month's U.S. election, and the risk that it will be contested, about the Brexit endgame, and, increasingly, about New Covid restrictions and lockdowns in North America and Europe. The scene is set for volatile markets in the coming weeks. We are bearish on the dollar, bigger picture, but the timing doesn't look right to act on this now, and might not be for some time. The weaker dollar thesis is structured on Fed policy alongside a net outflow of speculative and non-speculative capital, and requires a backdrop of positive risk appetite in global markets to function, to draw out capital parked in the safe haven of U.S. Treasuries and seek growth in global economies. It follows that the world needs to make it through the Covid crisis, either via vaccines, or by countries learning to live with the new pathogen in a manner that causes minimal curtailment of economic activity. Sweden provides a positive example in how this might be done, and Belgium recently bucked the trend in Europe by easing restrictions. But most governments in the northern hemisphere are nervous heading into the winter respiratory illness season. The Brexit endgame, even assuming it finishes with a deal, is likely to put a dent in the terms of trade positions in both the EU and UK, and more especially in the case of the latter. This, and the Covid situation in Europe, should maintain the ECB's accommodative bias. The central bank has been highlighting concern about recent strength in the euro's effective exchange rate, given its tightening effect on real interest rates in the Eurozone. For now, this backdrop should limit EUR-USD's upside potential.

[USD, JPY]
USD-JPY recouped from yesterday's low at 105.47, and has been plying a narrow range in the mid-to-upper 105.00s so far today. The low was the product of a brief bout of safe haven buying of the yen after President Trump announced that he was calling off talks with the Democrats for further fiscal aid until after the election. Most yen crosses saw a bigger-magnitude drop, though recovered some lost ground today. Trump subsequently tweeted that he was ready to approve support for airlines (totalling $25 bln), wage protection ($135 bln) and a $1,200 stimulus check, which helped revive risk appetite in global markets. Uncertainties prevail: about next month's U.S. election, and the risk that it is contested, about the Brexit endgame, and, increasingly, about New Covid restrictions and localized lockdowns in North America and Europe. The yen is likely to remain apt to directional change on the back of shifting risk premia in global markets. Backed by a surplus economy, and one where yield-seeking domestic investors are apt to invest in foreign assets during times of confidence, but repatriate funds when times are uncertain, the yen has an established profile of a low-beta haven currency.

[GBP, USD]
The pound lifted after underperforming yesterday. Cable posted a high at 1.2907, up from yesterday's 1.2867 low but remaining well off yesterday's highs just above 1.3000. We remain bearish of the pound, in terms of its effective exchange rate, even in the scenario that the EU and UK strike a trade deal, as this would still result in a deterioration in the UK's trading position. A Bloomberg article yesterday highlighted the steady stream of financial services resources that are being moved out of the UK to the Eurozone, and the fact that even with a trade deal in place, London will likely continue to lose business to the continent as the "equivalence" regime on rules would leave firms with long-term uncertainty (as Brussels would be able to unilaterally decide if the UK's rules are to its satisfaction).

[USD, CHF]
EUR-CHF has ebbed back under 1.0800 again, reflecting the chronic proclivity for the Swiss currency to rise in nominal terms, from incoming interest and other investment receipts from assets held abroad, alongside the trade surplus. A higher franc drives down inflation, which to a degree offsets any loss in export competitiveness that a nominally firmer currency might otherwise entail, as there is a high import component in Swiss exports. The SNB, however, remains committed to limiting gains in the franc. At its quarterly monetary policy review last month, it stated that the franc remains "highly valued" and said it is ready to "intervene more strongly in the foreign exchange market". The cross has repeatedly failed to sustain gains above 1.0800 over the last couple of months, even though influence of the SNB's intervening hand may have been at play during the recent upside bursts. Total Swiss sight deposits of francs have risen sharply since the pandemic and consequential lockdowns took a grip on global markets back in March. Sight deposits can be viewed as a proxy marker of SNB intervention to sell francs in forex markets (after buying foreign currencies), which results in the crediting of newly created francs at commercial banks sight accounts. The rise in sight deposits also reflects SNB operations to boost liquidity via the COVID-19 refinancing facility. EUR-CHF remains below the seven-month peak that was seen in early June at 1.0921.

[USD, CAD]
USD-CAD dipped back under 1.3300 after earlier posting a one-week high at 1.3341. President Trump's postponement of negotiations on a new fiscal support package caused a bout of risk aversion in global markets, which both supported the U.S. dollar while weighing on the Canadian dollar via a weakening in oil prices. A subsequent improvement in risk appetite (Trump tweeted that he's ready to sign-off on a number of support measures) saw USD-CAD ebb back. On Canada's domestic front, rising positive Covid tests are becoming a problem as they are leading to economically disruptive restrictions. Canada's September employment report is up on Friday, where we anticipate a 100.0k headline gain after the 245.8k rise in August, with unemployment seen ebbing to 10.0% from 10.2%.