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By XE Market Analysis May 5, 2021 4:23 am
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    XE Market Analysis: Europe - May 05, 2021

    The dollar lost some upside momentum but has remained firm. The DXY dollar index edged out a two-week high at 91.43 while EUR-USD ebbed below 1.1990 for the first time since April 19th. This comes after U.S. Treasury Secretary Yellen, formerly the chair of the Fed, caught attention by stepping on Powell's toes yesterday, saying that the Fed might have to lift rates to contain an overheating economy. She subsequently tried to walk back these remarks, though the damage was done in the sense of having catalysed the sell-off on Wall Street yesterday. The risk-off tone was responsible for driving the U.S. 10-year Treasury yield back under 1.60% for the first time since last week. The dollar broke step with yields, however. To ourselves, and others, a real 10-year yield of -1.0% looks incongruous with the prevailing course of the economy, which is something that the currency markets appears to be now recognizing. Elsewhere, USD-JPY lifted towards the 109.50 level. USD-CAD settled near 1.2300 after turning lower from yesterday's one-week high at 1.2350. Resurgent commodity prices have been too much to ignore for the likes of the Canadian dollar and other commodity correlating currencies. Oil prices rose for a third consecutive day, with front-month WTI futures posting a 51-day high at $66.31. Many base metals scaled to fresh major trend highs today, with many commentaries talking about a commodity 'super cycle'. The Aussie and kiwi dollars saw intraday gains but these failed to sustain, and both remained within their respective Tuesday ranges against the U.S. dollar. Q1 labour data out of New Zealand was solid, while Australia produced strong building approvals figures. Elsewhere, Cable posted a two-day high at 1.3914, and the pound also printed a two-week high versus the euro, and a six-day peak against the yen. The UK currency has seen choppy price action over the last day, posting highs in the wake of a stellar UK manufacturing PMI report before dropping back, with narratives attributing this to the political risks posed by UK's local elections on Thursday, which could potentially embolden the Scottish independence movement. The counter to this is that even if pro-independence parties in Scotland won a supermajority in the Scottish parliament, they would still not have a legal claim under UK law to hold another referendum on the issue (the first being in 2014). Polling has been shifting in favour of the pro-UK side in recent months, but are still too close to call.

    [EUR, USD]
    EUR-USD ebbed below 1.1990 for the first time since April 19th. With the U.S. economy building up a head of steam on the back of the Covid vaccine rollout, alongside the release of pent-up consumer demand and the outsized, record-level of fiscal stimulus, and with a central bank that remains steadfastly in uber-accommodative mode, the risks for inflation, and the dollar, are to the upside. We have been noting that the upward trajectory for U.S. price increases into 2021 extends beyond the much-touted base effects that are clearly lifting the y/y measures. In April data (released mid May) we expect CPI gains of 0.2% for both the headline and core. The y/y CPI gain should surge to 3.6% from 2.6%, while the y/y core price gain should climb to 2.2% from 1.6%. We expect y/y CPI gains to extend in May of around 3.8% for the headline and around 2.5% for the core. In sum, a rising bias in longer-dated U.S. yields is likely to re-establish as markets return to pricing in contingency risk that the Fed may be forced to tighten sooner than the 2024 start point for tightening that it has been signalling. As for the euro, peak pessimism about the Covid situation looks to have passed, and Eurozone growth and inflation are set to rise, but lag the U.S. The ECB left policy settings unchanged in April while signalling an unambiguously dovish bias and kicking the decision on whether to extend the PEPP (Pandemic Emergency Purchase Program) down the road.

    [USD, JPY]
    USD-JPY lifted towards the 109.50 level. We remain bullish, given the massive growth differential emerging between the U.S. and Japanese economies, with Q2 GDP heading for double digit growth in the U.S. We also anticipate that the pandemic-recovery trade, aka the reflation trade, will continue in global markets into 2022, which should be conducive of yen underperformance.

    [GBP, USD]
    Cable posted a two-day high at 1.3914, and the pound also printed a two-week high versus the euro, and a six-day peak against the yen. The UK currency has seen choppy price action over the last day, posting highs in the wake of a stellar UK manufacturing PMI report before dropping back, with narratives attributing this to the political risks posed by UK's local elections on Thursday, which could potentially embolden the Scottish independence movement. The first referendum in 2014 was meant to be a "once in a generation" event, though nationalists consider the event of Brexit a game changer as Scotland voted to remain in the European Union at the 2016 vote on EU membership. The counter to this is that even if pro-independence parties in Scotland won a supermajority in the Scottish parliament, they would still not have a legal claim under UK law to hold another referendum on the issue (the first being in 2014). Polling has been shifting in favour of the pro-UK side in recent months, but are still too close to call. We retain a bullish view on the pound against the euro, and more especially the low-yielding currencies of surplus economies, such as Japan and Switzerland, which is hinged on the expectation that the global pandemic recovery trade will continue into 2022. The UK's main equity indices are replete with globally-focused cyclical stocks, which continue to trade at a discount relative to global peers, and which should benefit as major economies rebound. The broad trade-weighted value of the pound still remains near historically weak levels, too.

    [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 settled near 1.2300 after turning lower from yesterday's one-week high at 1.2350. Resurgent commodity prices have been too much to ignore for the likes of the Canadian dollar and other commodity correlating currencies. Oil prices rose for a third consecutive day, with front-month WTI futures posting a 51-day high at $66.31. Weekly data from API showed a draw on U.S. crude stockpiles. Many base metals scaled to fresh major trend highs today, with many commentaries talking about a commodity 'super cycle'. The Canadian dollar and Norwegian krone have outperformed this year on the back of the reflation trade. USD-CAD is down 3.5% on the year so far at prevailing levels, while CAD-JPY, a cross that we remain bullish on, is showing a 10% gain.

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