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By XE Market Analysis December 7, 2020 7:19 am
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    XE Market Analysis: North America - Dec 07, 2020

    The dollar and yen found their feet while the pound dropped sharply on no-deal Brexit anxiety, and the dollar bloc currencies put in a rotation lower amid a backdrop of risk-cautious sentiment in global markets. Global stock markets mostly traded lower, as did oil and other commodities. Regarding sterling, the currency shed over 1% against the dollar, euro and yen, among other currencies. Time is fast running out and the EU and UK remain a loggerheads in trade talks. UK prime minster Johnson let it be known that he was ready to pull out of negotiations "within hours" if Brussels refused to budge on its "outrageous demands." While clearly an attempt to put the ball in the EU's court, a Reuters report cites an EU official saying that it is up the UK to choose a positive outcome or a no-deal outcome. Even the normally optimistic Irish foreign minister Coveney admitted that the prospects for a deal look "very limited" at the moment. A Bloomberg cited a UK official saying that if there is no progress today, then negotiations will conclude and a no-deal scenario will beckon. Elsewhere, EUR-USD posted a correction low at 1.2078 before finding a footing. The low marked a near 1 big figure pull back from Friday's 32-month peak at 1.2177. The near 1.5% tumble in Cable exerted a drag on EUR-USD, with the euro itself not being immune from no-deal Brexit risk. Recent gains in EUR-USD have mostly been reflective of broader dollar weakness, with the imbalance in richly valued U.S. equities versus lower valued European and emerging market equities having rendered the dollar apt to underperformance amid a backdrop of rising optimism about longer-term global economic prospects. We expect more of the same over the coming months, though the pair may be ripe for a pause in its up trend. 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. USD-CAD has found a footing after posting a 26-month low at 1.2770 on Monday.

    [EUR, USD]
    EUR-USD posted a correction low at 1.2078 before finding a footing. The low marked a near 1 big figure pull back from Friday's 32-month peak at 1.2177. A near 1.5% tumble in Cable exerted a drag on EUR-USD, especially with the euro itself not being immune from no-deal Brexit risk. Recent gains in EUR-USD have mostly been reflective of broader dollar weakness, with the imbalance in richly valued U.S. equities versus lower valued European and emerging market equities having rendered the dollar apt to underperformance amid a backdrop of rising optimism about longer-term global economic prospects. We expect more of the same over the coming months, though the pair may be ripe for a pause in its up trend. 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. In the U.S., November inflation data this week will interest given that the relatively high inflation differential versus the eurozone and other major economies has been a negative for the dollar, given the resulting loosening impact on real interest rates in the U.S., particularly with the Fed new average inflation policy strategy allowing inflation to run hot. We expect a slight slowing to a 1.1% y/y clip for the headline CPI, versus the 1.2% y/y prior pace. Core prices should remain steady at a 1.6% y/y growth rate. These are hardly hot numbers, but y/y base effects in energy prices and a recovery in economic activity (assuming a successful Covid vaccination program, release of pent up consumer demand, stimulus etc) should mean higher inflation ahead, and resulting greater loosening in real interest rates.

    [USD, JPY]
    USD-JPY edged above Friday's high in making a peak at 104.32. The yen against most other currencies has held firmer, especially against the pound and Australian dollar. Investors' mood turned risk cautious after the main U.S. equity indices hit record peaks on Friday. Japan's Nikkei 225, fresh from 29-year highs, closed with a 0.76% decline. Chinese stock markets also turned lower, despite a much stronger than expected 21.1% y/y rise in China's November exports. U.S. and European equity index futures also turned lower, albeit moderately so. Commodities were softer, to, ebbing from recent multi-month and multi-year highs. A Reuters report citing sources stated that the U.S. is set to issue sanctions on another 12 Chinese government officials, drew attention but didn't have much impact. The protectionist stand-off between the U.S. and China, and Australia and China, haven't been have a significant impact in overall global trade, with China opening up its economy via the RCEP agreement, and, in the case of trade with Australia, many of the trade goods in question are fungible (meaning that net global demand will remain unchanged). The outlook for global asset markets remain bullish. Low interest rates and low inflation (which enhances corporate earnings), spare capacity (which helps corporations maintain low costs), massive global liquidity and stimulus, central bank asset purchases programs (which reins in, or at least curtails, sovereign bond yields, thereby forcing investors to seek returns in equities), and, essentially, the prospect for a vaccine-facilitated return to something approaching economic and societal normalcy, are all together a potently bullish tonic for global asst markets. Regarding the yen, and USD-JPY specifically, both currencies 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 are tagging as a longer-term softening trend, especially against the cyclical currencies, including the dollar bloc. 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 has dropped sharply, by over 1% against the dollar, euro and yen, among other currencies. Time is fast running out and the EU and UK remain a loggerheads in trade talks. UK prime minster Johnson let it be known that he was ready to pull out of negotiations "within hours" if Brussels refused to budge on its "outrageous demands." This is clearly an attempt to put the ball in the EU's court, though a Reuters report cites an EU official saying that it is up the UK to choose a positive outcome or a no-deal outcome. Even the normally optimistic Irish foreign minister Coveney admitted that the prospects for a deal look "very limited" at the moment. Another EU source said that fishing wasn't the real blocking point, according to the BBC, fitting other reports that governance and retributive measures are the real issues, with the EU wanting, for instance, the ability to respond to any UK breaches on state aid rules with tariff increases. Germany, along with Ireland and eastern European members are broadly pressuring France, Spain and Italy to amenable. Our best guess remains that a deal will be struck, though the no-deal risk is palpable. In terms of deadline, some pundits are pointing to this week's EU summit, starting Thursday, as being the latest in a long line of deadlines that have come and gone. However, if the only way forward is a no-deal, then, with just over three weeks to go when the UK exits the common market, the plug would likely be pulled sooner rather than later. Bloomberg cited a UK official saying that if there is no progress today, then negotiations will conclude and a no-deal scenario will beckon. Concrete news of a no-deal would spark a precipitous fall in the pound, and we would look for Cable heading to 1.2500 and below in this circumstance.

    [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 found a footing, and may be in for a relatively sustained rebound after posting a 26-month low at 1.2770 on Monday. Oil prices have softened after reaching a nine-month peak on Friday, and there may be more to go in this theme. While the bigger picture prospects remain bullish for oil and oil-correlating currencies, such as the Canadian dollar, the nearer term looks more challenging. Oil supply is on the up, with Libyan supply going back to pre-blockade levels, Norway having announced a rise in output, 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 is 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. While Covid vaccination programs have started in Russia and will start in the UK this week, and in the U.S. as soon as next week, these won't have much impact in alleviating restrictions over the northern hemisphere winter. The scene looks to be set for a near-term correction in oil prices, which would see USD-CAD's directional bias shift from the downside to the upside for a period.

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