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By XE Market Analysis September 28, 2020 4:49 am
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    XE Market Analysis: Europe - Sep 28, 2020

    The yen posted moderate gains in otherwise quiet, narrowly ranging currency markets. USD-JPY and yen crosses softened. More ECB policymaker signalling about their concern of euro valuations elicited EUR-JPY selling, which tipped the cross to a two-month low at 122.38. USD-JPY, meanwhile, gave back most of the gains that were seen on Friday in posting a low at 105.27. AUD-JPY also saw weakness, though managed to subsequently pare most of its decline after Westpac pushed back their call for an RBA rate cut to November from October. This helped AUD-USD recoup most of the decline seen on Friday. EUR-USD posted modest declines, though the low is 3 pips above the two-month low that was seen on Friday at 1.1612. ECB members de Cos (Spain) and Visco (Italy) both said that the recent foreign exchange developments have been a worry given the disinflationary impact. Visco said that "if downward pressures jeopardise out price stability objective, we'll have to intervene." Policymakers from other central banks, including the BoE, BoJ and RBA have been sounding dovish remarks, with some, like those a the ECB, linking them to exchange rates. This has weakened the previously strong bearish sentiment that market participants had until recently. BoE MPC member Tenreyro said that she has seen "encouraging" evidence on negative interest rates. The pound ticked higher regardless, with an FT article reporting that there are tentative signs of progress into the final round of form trade talks between the EU and UK. In other news, Japan's chief cabinet secretary, Kato, said that there would be no hesitation in bringing forward new stimulus measures if required. Data out of China showed industrial companies profits increase or the fourth consecutive month in August. In Europe, positive Covid tests results have, for the most part, continued to soar. Covid hospitalisations and mortality, while bumping higher over the last week in many countries, still remain at very low levels relative to the March/April peak. The ratio between Covid-caused death and flu- and pneumonia-caused death also remains low, again contrasting markedly to the March/April situation. Nonetheless, the trend in most countries in Europe is for tighter restrictions and more localized lockdowns.

    [EUR, USD]
    EUR-USD posted modest declines, though the low is 3 pips above the two-month low that was seen on Friday at 1.1612. EUR-JPY, meanwhile, pegged a new two-month low. The euro was impacted by remarks from ECB members de Cos (Spain) and Visco (Italy), who both said that the recent foreign exchange developments have been a worry given the disinflationary impact. Visco said that "if downward pressures jeopardise out price stability objective, we'll have to intervene." Policymakers from other central banks, including the BoE, BoJ and RBA have been sounding dovish remarks, with some, like those a the ECB, linking them to exchange rates. This has weakened the previously strong bearish sentiment that market participants had until recently. In the U.S., focus remains on Congress and its continued attempts to reach a resolution on another pandemic-era fiscal support package. The approaching election is also firmly on the radar; the net outcome (House, Senate and Presidency) will have major implications for fiscal policy. In Europe, positive Covid tests results have, for the most part, have continued to soar. Covid hospitalisations and mortality, while bumping higher over the last week in many countries, still remain at very low levels relative to the March/April peak. The ratio between Covid-caused death and flu- and pneumonia-caused death also remains low, again contrasting markedly to the March/April situation. Nonetheless, the trend in most countries in Europe is for tighter restrictions and more localized lockdowns. Overall, we retain a bearish view of EUR-USD.

    [USD, JPY]
    USD-JPY and yen crosses have softened. More ECB policymaker signalling about the concern of euro valuation elicited EUR-JPY selling, which tipped the cross to a two-month low at 122.38. USD-JPY, meanwhile, gave back most of the gains that were seen on Friday in posting a low at 105.27. AUD-JPY also saw weakness, though managed to subsequently pare most of its decline. In Japan, chief cabinet secretary, Kato, said that there would be no hesitation in bringing forward new stimulus measures if required. South Korea exports up for first time in seven months in September. The Japanese currency 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]
    Cable has lifted back toward 1.2800 and EUR-GBP has dropped back under 0.9100 as market participants reacted to an FT article reporting that there are tentative signs of progress into the final round of form trade talks between the EU and UK, which will take place in Brussels this week. Don't hold your breadth would be our advice. There remains a palpable risk that only a bare bones trade deal will reached, and a possibility that the UK will leave the single market at year-end with no deal at all. In either of these scenarios, negotiations would continue next year, so the matter wouldn't be closed, but the near- to medium-term impact on the UK could be significant. There is a view that PM Johnson has no intention of leading the UK out of the EU's single market without a deal and reneging on the Withdrawal Agreement, given the significant economic and political cost it would entail. This view has been, at least up until now, preventing the pound from seeing more extensive losses. We are inclined to agree with it, though it should be remembered that Johnson's cabinet is loaded with Brexit ideologues, and the EU is not likely to accept the unilateral overwriting of the Withdrawal Agreement. The controversial Internal Market Bill (which proposes legislation that overwrites parts of the Withdrawal Agreement) remains in process in the UK's parliament, and passage through the House of Lords remains a potential obstacle. BoE MPC member Tenreyro, meanwhile, said that she has seen "encouraging" evidence on negative interest rates. Another consideration is the increasing level of restrictions in the UK in response to the surge in positive Covid tests. Localised lockdowns now affect 17 mln people in the UK. As with with most other European countries, the surge in positive test outcomes is not being accompanied with anything like a corresponding rise in hospitalisations/mortality, although a 3/4 week lag should be observed. If the discordance between positive tests and illness/mortality persists (in this scenario the reasons would include false positive tests and the build of much greater population immunity than is being assumed currently), then there would be a chance, at some point, for a policy relaxation. Pressure on PM Johnson from his own party and news that he spoke to the Swedish government's anti-lockdown/anti-facemask scientific advisors supports this view.

    [USD, CHF]
    EUR-CHF briefly lifted back above 1.0800 last week, before turning lower again. The SNB last week repeated, after its quarterly monetary policy review, that the franc remains "highly valued" and said the bank 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. The 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 still remains below the seven-month peak that was seen in early June at 1.0921. One downside risk for EUR-CHF is the Brexit endgame, which is fast approaching. The latest reports suggest the EU and UK are in a total impasse just one month before a deal has to be struck before the UK leaves the EU's single market at year-end. The risk is that the two sides will reach only a bare bones deal, or even no deal at all. The prospect for this would be de-stabilising for both the pound and euro, and would likely underpin the franc.

    [USD, CAD]
    USD-CAD has remained buoyant, near last Thursday's seven-week high at 1.3420. Broader U.S. dollar strength and soft oil prices have been underpinning the pair recently, which has rallied from the eight-month that was seen at the beginning of September at 1.2992. We retain a bullish view of the pairing, with surging Covid cases in Europe and Canada yielding new restrictions and localized lockdown measures.

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