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By XE Market Analysis June 1, 2020 4:30 am
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    XE Market Analysis: Europe - Jun 01, 2020

    Both the dollar and yen weakened against a backdrop of rallying stock markets in the Asia-Pacific region. There was relief in markets that U.S. President Trump left the trade deal with China intact as he outlined on Friday measures against China following its ratification of the controversial Hong Kong security law. Ongoing social and economic reopening among the world's biggest economies, meanwhile, have also been tonic for markets, offsetting concerns about the spate of rioting in many U.S. cities and hostility in U.S.-China relations. June PMI data out of China showed manufacturing sector activity continuing to expand, albeit it at a modest pace, along with growth in both the services and construction sectors, fitting arguments that the Chinese economy is operating back at near 90% capacity. In stock markets, the Asia-Pacific MSCI index rose by over 2.1% to its highest since early March, while Japan's Nikkei 225 closed off its highs but with a 0.8% gain, having earlier posted a three-month high. In currency markets, the narrow trade-weighted USD index lost 0.5%, reflecting an erosion in the U.S. currency's safe haven premium. The index printed an 11-week low at 97.89, with the dollar have now largely unwound gains seen during the market carnage in March. EUR-USD concurrently rose by nearly 0.5% in making its highest level since March 17th at 1.1150. Cable saw a similar magnitude of gain in posting a three-week peak at 1.2414. USD-JPY traded relatively neutrally as the yen racked up losses against other currencies, with the pairing holding a sub-40 pip range in the mid-to-upper 107.00s, continuing a tight-ranged pattern that's been seen for nearly two weeks now. The biggest mover out of the main currencies has, not surprisingly, been AUD-JPY, which surged by nearly 1.5% in posting its loftiest level since late February, at 72.69. AUD-USD concurrently rallied by well over 1% and made a four-month peak at 0.6756. Other commodity currencies also outperformed, albeit to a lesser extend. Front-month WTI crude prices hit a new high at $35.77, the best level since early March.

    [EUR, USD]
    EUR-USD concurrently rose by nearly 0.5% in making its highest level since March 17th at 1.1150. The gain occurred concomitantly with the narrow trade-weighted USD index losing 0.5%, reflecting an erosion in the U.S. currency's safe haven premium. The index printed an 11-week low at 97.89, with the dollar having now largely unwound gains seen during the market carnage in March. On the euro side of the balance, expectations for the implementation of the EU's massive recovery fund have been a support over the last couple of weeks, though the common currency has still lost ground to most of the commodity currencies, and the pound. EUR-USD is now trading at levels that were prevailing ahead of the pandemic crash in March. The focus is now on economic reopenings on both sides of the Atlantic, and globally. There are risks ahead, which may keep the dollar's role as a safe haven in play, and so limit EUR-USD's upside potential. Economies aren't likely to fully recover under social distancing rules and with the threat of there being renewed lockdowns (witness South Korea). Also, there is a risk that bankruptcies will soar once government business and pay support schemes fall away.

    [USD, JPY]
    The yen weakened against a backdrop of rallying stock markets in the Asia-Pacific region. There was relief in markets that U.S. President Trump left the trade deal with China intact as he outlined on Friday measures against China following its ratification of the controversial Hong Kong security law. Ongoing social and economic reopening among the world's biggest economies, meanwhile, have also been tonic for markets, offsetting concerns about the spate of rioting in many U.S. cities and hostility in U.S.-China relations. June PMI data out of China showed manufacturing sector activity continuing to expand, albeit it at a modest pace, along with growth in both the services and construction sectors, fitting arguments that the Chinese economy is operating back at near 90% capacity. In stock markets, the Asia-Pacific MSCI index rose by over 2.1% to its highest since early March, while Japan's Nikkei 225 closed off its highs but with a 0.8% gain, having earlier posted a three-month high. USD-JPY traded relatively neutrally as the yen racked up losses against other currencies, with the pairing holding a sub-40 pip range in the mid-to-upper 107.00s, continuing a tight-ranged pattern that's been seen for nearly two weeks now. The biggest mover out of the main currencies has, not surprisingly, been AUD-JPY, which surged by nearly 1.5% in posting its loftiest level since late February, at 72.69. There are risks ahead, which may keep the yen's role as a safe haven in play. Economies aren't likely to fully recover under social distancing rules and with the threat of there being renewed lockdowns (witness South Korea). Also, there is a risk that bankruptcies will soar once government business and pay support schemes fall away.

    [GBP, USD]
    Cable rallied by nearly 0.5% in posting a three-week peak at 1.2414. The pound also rose against the yen, with both the dollar and Japanese currency losing safe haven premium amid a backdrop of rallying stock markets, though the UK currency lost ground to the outperforming Australian dollar. Bigger picture, the pound is recovering from weakness that was seen in May, which came amid speculation that the BoE is heading for negative rates, and so join the ECB's and SNB's club. The next BoE Monetary Policy Committee meeting is on June 17th-18th. We don't expect the central bank 'go negative' at this juncture, based on recent signalling by BoE members, with social and economic reopening, domestically, in Europe and across the world, driving a rebound from depressed levels in the UK economy. Much will depend on how successful the reopenings are without sparking a further lockdown. For now, the BoE will remain in wait-and-seen mode. Another pressing issue in the UK is the trade negotiations between the UK and EU, with only one more round left until the UK must decide if it wants to extend its post-Brexit access to the EU's customs union and single market beyond the end of 2020. There remains a possibility that the UK will leave the EU's single market at year-end. Things will be decided by the EU's leaders summit in mid June, ahead of the July-1sy deadline. Our hunch, which is not the market consensus, is that the UK will either reach and agreement with the EU, or ask for an extension, despite threats to leave without a deal (which is clearly a negotiation tactic). If we're right, this would be bullish for the pound, especially if the BoE also refrained from negative interest rates. A return to levels above 1.3000 in Cable would be a likely in this scenario.

    [USD, CHF]
    The SNB has successfully been putting a cap on the franc, which has seen EUR-CHF in recent weeks skirt along just above the five-year low that was first seen on March 9th at 1.0505 without breaching it. Weekly sight deposit data out of Switzerland has pointed to the extent of SNB franc selling over the pandemic crisis period, which was most acute in March before basing out as global governments and central banks acted with interventions and stimulus packages. A rise in sight deposits (money held by commercial banks) can suggest the francs turning up after being sold by the central bank. The 1.0500 level in EUR-CHF, while not a fixed floor, has clearly been a line in the sand of the SNB. The Swiss central bank has a long history of intervening to either limit of slow the pace of appreciation in its currency, which normally comes during periods of risk aversion in global markets and/or euro underperformance. From 2011 through to 2015, the SNB capped the franc via a 1.2000 floor in EUR-CHF. When the cap was abandoned in January 2015, the franc rallied by 30%, having become unfeasible for the SNB to counter the ECB's expansive monetary policies. A similar circumstance is afoot today, with the ECB maintaining expansive polices following a period of safe haven demand for the franc. In January, the U.S. added Switzerland to its list of currency manipulators. The move seemed a bit harsh given the franc is a demonstrably chronically-overvalued currency in purchasing parity terms (as illustrated by the Economist's Big Mac index), though the Trump administration argued that Switzerland should pursue a more expansive fiscal policy as a remedy.

    [USD, CAD]
    The Canadian dollar, like other commodity currencies today, has rallied amid rising global stock markes. Front-month WTI crude prices also hit a new high at $35.77, the best level since early March, which has been a particular boon to the oil-correlating commodity currency sub group. USD-CAD posted a fresh low at 1-3673, which is the lowest level seen since March 11th. Like other commodity currencies and risk assets, the Canadian currency is back to levels prevailing before the global market panic of mid March. This should give market participants pause for thought, as reopening economies are only doing so only partially, and there is a risk for a second wave of coronavirus infections as social and economic re-liberalization unfolds (witness the spike in cases in South Korea, which has led to a re-introduction of lockdown measures). This said, the outlook for oil is still bullish. OPEC+ adherence to planned production cuts is reportedly high, and Russia is reportedly not objecting to the next meeting of the group being brought forward to June 4th (which is a good sign of its compliancy). U.S. output continues to fall amid the forced closure of hundreds of shale wells, with current pricing making such operations unviable. On the demand side, China and India are said to be increasing imports, while fuel use in general has been on the rise as economies emerge from lock down. Bigger picture, as long as the nascent recovery isn't scuttled by a second wave of COVID-19 infections, oil price risk going forward would appear to be to the upside.

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