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By XE Market Analysis December 9, 2020 3:51 am
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    XE Market Analysis: Europe - Dec 09, 2020

    The dollar and yen have traded softer against most other currencies as risk appetite picked back up. All three of the principal U.S. equity indices hit all time highs yesterday, with the S&P 500 and Nasdaq closing at record high levels. Their respective futures are showing moderate gains in overnight trading. The MSCI Asia-Pacific (ex-Japan) index also hit a new record peak. Japan's Nikkei closed 1.3% higher, but remained just off its 29-year peak. Base metals rose, with the likes of zinc, nickel and tin posting new one-year plus highs. Copper and aluminium prices also gained, but remained of their recent trend highs.Oil prices found a foothold after dropping over the last two days. Precious metals came under pressure, while the notoriously volatile bitcoin is down by nearly 6% on the day, as of the early London session. Strong Japanese machine orders data out of Japan, although a choppy data series, along with expectations for a new Covid fiscal relief package in the U.S. to come sooner rather than later, have been cited in market narratives as rekindling risk-on positioning. The UK's commencement in rolling out its Covid vaccine program, being the first Western nation to do so, has also being mentioned. In currencies, the DXY dollar index slipped to a two-day low at 90.70. EUR-USD lifted to the low-to-mind 1.2100s, but remained off its 32-month peak at 1.2177. The commodity-correlating dollar bloc currencies naturally advanced, though most remained off recent trend highs. AUD-USD came within a pip of 29-month high seen on Monday, at 0.7455, while AUD-JPY was an exception in posting a new three-month high. The yuan was another exception, posting a two-year high against the dollar, reflecting dollar weakness rather than a shift in the trade-weighted value of the Chinese currency.

    [EUR, USD]
    EUR-USD has settled in the lower 1.2100s amid a pause in the bull trend that left a 32-month peak at 1.2177 last Friday. We assume markets will become more risk-cautious into the year-end period, which may see the dollar's downtrend lose steam. We remain bullish on EUR-USD into 2021, on the proviso that global asset markets remain in a bull trend, which looks likely amid the mix of fiscal stimulus, a vaccine-assisted return toward societal and economic normalcy, a release of pent-up consumer demand in major economies, low interest rates, and so forth. In this scenario, the asymmetry between richly valued U.S. stock markets versus much less richly valued markets in Europe and across the emerging world will generate capital outflows out of the dollar. The Fed's inflation tolerant policy rubric, which should keep U.S. real interest rates on a loosening path, is also also a dollar negative. Nearer term, the ECB will announce its latest "policy recalibration" this Thursday, which is almost certain to involve a strengthening of the PEPP and TLTRO programs along with a more symmetric inflation target, although anyone hoping for another easing bonanza are likely to be disappointed.

    [USD, JPY]
    USD-JPY has remained directionally uneventful, holding near the 104.00 level while most yen crosses are higher today amid a rekindling in risk-on positioning in global asset markets. Regarding USD-JPY specifically, both the dollar and the yen are safe haven, counter-cyclical currencies, which limits the directional scope for the pairing, though the real interest rate differential between the U.S. and Japan is a mathematical negative for the nominal exchange rate. Outside the case against the dollar, the yen is amid what we see as a longer-term softening trend, especially against the cyclical currencies, including the dollar bloc, although this may not resume fully until the near year. The yen's broader performance should continue to derive from the level of risk appetite in global markets. Japan's surplus economy, where yield-seeking domestic investors are apt to invest in foreign assets during times of confidence, but repatriate funds when times are uncertain, has established the yen as a low-beta haven currency.

    [GBP, USD]
    The pound as ticked higher today, and the currency is now showing a modest net gain on the dollar, euro and yen from week-ago levels. UK Prime Minister Johnson will travel to Brussels later today for talks with European Commission President von der Leyen. This comes ahead of tomorrow's EU leaders' summit. Political pundits are, quite rightly, touting the coming day as the make or break moment in the Brexit endgame. This comes with the UK government having removed the offending parts of its controversial internal markets bill (which would have allowed the UK to overwrite parts of the withdrawal agreement), with the EU and UK yesterday reaching agreement on specific trade arrangements for Northern Ireland. This is necessary step to allow a deal to be made. Johnson and von der Leyen have already spoken by phone earlier in the week, and at the weekend. The in-person meeting, which will be over dinner, will establish whether both sides, according to BBC analysis, are willing in principle to tolerate any notion of budging. This comes with the negotiating teams have gone as far as they can, and it's now, finally, the heads of state will bring matters to a close. We continue to expect a deal, though the risks of no-deal seem palpable, with France maintaining a more hawkish stance on fishing than many anticipated. There have been reports that fishing is a sideshow, however, being used by the EU to pressure the UK. State aid, and more particularly the issues of governance and and an associated appeal process are the real issues in play, with the UK seeing the EU's demands as undermining its sovereignty. There are strong of win-win incentives for both sides to reach an accord, even if only a narrowly based one. Johnson will need to have enough to sell it to the powerful Brexit ideologue faction in his party, as his position as leader will weaken further if not. He has some wriggle room, as he could argue that leaving the EU in some alignment of its rules is the pragmatic option in the Covid era, and that the UK could diverge from EU rules over time.

    [USD, CHF]
    EUR-CHF has settled around 1.0800 after failing to sustain recent gains above 1.0850. Recent risk-on positioning had been weighing on the Swiss franc with investors factoring in a sea change in optimism about a vaccine solution to the Covid-19 crisis. This will be pleasing to policymakers at the SNB, given their chronic disquietude about the franc's value. Unlike most central banks, the SNB explicitly incorporates the franc into monetary policy to ward off speculative purchases of the currency, which would impart deflationary forces (via cheaper imports) with the consequential impact of an unwelcome tightening in real interest rates. The central bank stated at its last quarterly monetary policy review that the franc remains "highly valued" and said it is ready to "intervene more strongly in the foreign exchange market."

    [USD, CAD]
    USD-CAD has remained heavy, drifting back under 1.2800 today. The pair posted a new 26-month low at 1.2765 yesterday. Oil prices have found a footing after ebbing over the previous two days, and some base metal prices have lifted to fresh one-year-plus highs. We remain bearish on USD-CAD into 2021 on the expectation for an ongoing, strong rally in global asset markets amid a Covid vaccine-assisted return to something approaching societal and economic normalcy. There seems a risk for a near-term rebound in USD-CAD, however, heading into the Christmas and new year holiday period. Oil supply is on the up, with Libyan supply going back to pre-blockade levels, Norway having announced a rise in output from year-end, and the OPEC+ group having announced a 500k barrels per day increase from January. There are also signs that OPEC dissent is increasing, as highlighted by a Chatham House last week, with multiple participants in the output quotas unwilling to comply any longer. There are also expectations that U.S. president-elect Biden will reduce will lift sanctions on Tehran, which would see Iranian output increase. All this comes amid increasing Covid-related restrictions across North America, and with Europe is maintaining restrictions.

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