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By XE Market Analysis February 11, 2021 4:36 am
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    XE Market Analysis: Europe - Feb 11, 2021

    Narrow ranges have been prevailing in overall languid trading conditions. Japanese, South Korean and Chinese markets were closed today, with the latter commencing the week-long lunar new year holiday. Singapore will be off tomorrow, and the lunar new year holiday will start tomorrow in Hong Kong. Despite these absentees, global stock markets have remained buoyant, if directionally unambitious. The dollar bloc currencies correspondingly have been firm while remaining below their respective Wednesday highs. The dollar itself settled above the lows that it saw yesterday. This left EUR-USD making time in the lower 1.2100s, below Wednesday's 10-day peak at 1.2145. USD-JPY settled slightly to the north of the 104.50 level, above yesterday's 13-day low at 104.41. Cable consolidated recent gains below yesterday's 34-month peak at 1.3866. Ahead, we anticipate that the dollar will continue to weaken, assuming that the reflation trade sustains on the back of the sharp drop on new positive Covid tests, which is being seen globally, vaccination optimism, and overall good corporate earnings reports, alongside stimulus and the prospect for a pent-up consumer spending spree in developed economies. Note, too, that the January CPI report out of the U.S., yesterday, was cooler than expected while Fed Chair Powell said that policymakers still aren't even thinking about removing accommodation.

    [EUR, USD]
    EUR-USD making time in the lower 1.2100s, below Wednesday's 10-day peak at 1.2145. The U.S. currency has recently been weakening, concomitantly with the rearing back of the reflation trade, with global stocks and commodities rallying amid tumbling new positive Covid test results worldwide (down by nearly two thirds over the last month), alongside stimulus expectations in the U.S.. Tesla's decision to shift of $1.5 bln into Bitcoin this week was another factor that has weighed on the greenback. While the euro may strengthen further, we don't anticipate the common currency to be the long of choice in a softening dollar environment, at least for now, given the EU's laggard progress in rolling out Covid vaccinations means that continental Europe will likely lag peers in reducing societal restrictions. We still remain bullish on EUR-USD in the medium- to-longer-term view, however, which hinges on our view for the reflation trade to sustain over the coming weeks and months. The dollar is richly valued by the measure of the broad real effective exchange rate. Amid this context, the Fed is committed to an inflation tolerant, lower-for-longer policy posture, which is in essence a pro soft-dollar policy given the implication for declining real interest rates. The idea here, with regard to exchange rate determination, is that the Fed may have more luck in stimulating inflationary pressures than the ECB. This would in turn put further downward pressure on the U.S. real interest rate compared to the Eurozone.

    [USD, JPY]
    USD-JPY settled slightly to the north of the 104.50 level, above yesterday's 13-day low at 104.41. Recent declines have been driven by broad dollar weakness. At play this week have been Tesla's decision to park $1.5 bln in Bitcoin, which seemed to spark declines in the U.S. currency, alongside a drop from highs in U.S. Treasury yields, a strong rekindling in the global reflation trade amid tumbling positive Covid tests worldwide and vaccination optimism (concerns about new variants being offset by hopes for an effective response by tweaking existing vaccines). The flagship indices on Wall Street hit record highs this week, and global markets have been buoyant. Base metals and oil prices have also been rising. The BoJ last month left the main monetary policy settings unchanged. The deadlines for some funding programs were extended, with the central bank taking a grimmer view on the current state of the economy, although it also upped its growth forecast for the expected recovery in the next fiscal year. The BoJ has more recently been fretting about the possible side effects from its expansionary policy, and flagged a review and possible recalibration of measures at the March meeting in order to improve efficiency.

    [GBP, USD]
    Cable consolidated recent gains below yesterday's 34-month peak at 1.3866. Gains this week in the pairing has mostly reflected a weaker dollar, though the pound still managed to edge out a six-day high against the euro yesterday. Taking a step back, sterling is showing about a net gain of nearly 2% on the year-to-date (i.e. since the UK left the EU's common market and customs union) when averaged against the dollar, euro and yen, and is showing modest gains versus the Australian dollar and other dollar bloc currencies over this time, too. The outperformance reflects several things: a rebound of a historically cheaply valued currency; the passing of over four years of Brexit uncertainty, which should lead to a revival in business investment; and the UK's ahead-of-the-pack Covid vaccination program, which should enable the government to make a start on derestricting the economy before some peers, particularly the EU. Both sterling and UK gilt yields were elevated last week after the BoE's more upbeat than expected guidance, which laid to rest any lingering expectations that the negative interest rate option would likely be implemented. The central bank's overall upbeat outlook was a jolt to the prevailing sentiment, and the central bank's 2021 UK GDP growth downgrade was immaterial for markets, with policymakers projecting a rapid recovery toward pre-pandemic levels during 2021. The BoE did caveat that the outlook remains unusually uncertain due to the vicissitudes of the global pandemic. The bullish factors have been offsetting the inevitable rise in friction that Brexit has brought to trade between the UK and EU.

    [USD, CHF]
    Policymakers at the SNB retain a 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 repeated at its latest quarterly monetary policy review that the franc remains "highly valued" and said it is ready to intervene directly in the foreign exchange market.

    [USD, CAD]
    USD-CAD has been heavy today, but has remained above yesterday's three-week low at 1.2665. The Canadian dollar managed to eke out a two-day high against the yen, but has remained within recent ranges against other peer currencies. Recent strong gains in commodities, and in particular oil prices, has strengthened Canada's terms of trade. Front-month WTI crude futures are softer today after yesterday posting a one-year high at $58.91. While oil prices have up until yesterday risen on each day of the month so far, upside momentum has been waning, and today is shaping up to mark the first down day since January. Oil has been underpinned lately by a variety of factors, ranging from demand-stimulating cold weaker in Europe, to the large inventory draw in weekly U.S. data last week, to continuing OPEC+ supply constraint (Saudi Arabia last week commenced a unilateral supply cut that will last through to the end of March), to dropping positive Covid tests worldwide and vaccine optimism, and to the approaching mega-stimulus spending program in the U.S. economy. There are downside risks to the oil market ahead, however, given the juxtaposition of prices having returned far into pre-pandemic ranges and with global oil demand not likely to return to pre-pandemic levels for a considerable time yet.

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