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By XE Market Analysis October 12, 2020 7:37 am
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    XE Market Analysis: North America - Oct 12, 2020

    The dollar and yen lifted moderately against most other currencies, breaking their usual inverse correlation with stock markets, which rallied in Europe and Asia. The biggest losers out of the main currencies were the pound and the Australian dollar, which were both showing declines of about 0.3%-0.4% at the lows. EUR-USD ebbed to a low of 1.1795, which marked a near 50% retrace of the gain seen on Friday. ECB chief economist Lane said that the surge in Covid cases in Europe, and the resulting restrictions, puts a question mark over the economic rebound. Of note was the yuan, which fell by nearly 0.5% at its lows after the PBoC removed a bank reserve requirement on yuan forward contracts, which signalled that policymakers may have been concerned about the currency's recent gains. The yuan gained by about 7% versus the dollar since May, underpinned by favourable growth and interest rate differentials. The currency had also popped high last week after polls showed a widening poll advantage for Joe Biden, who most consider would adopt a more constructive engagement with China compared to Trump. The softer currency underpinned a 2.5%-plus rally in China's bellwether CSI 300 index. Another consideration is that China, along with South East Asia, are also looking in much better shape than North America and Europe with regard to the Covid situation. Elsewhere, USD-JPY nudged moderately lower and posted a one-week low at 105.43. EUR-JPY and other yen crosses have also seen downside drift, although most have remained above their respective Friday lows. Data out of Japan showed August core machinery orders beating expectations in rising 0.2% m/m, while September PPI came in at -0.8% y/y, below the median forecast for -0.5% y/y. Sterling softened today after posting modest gains last week against peer currencies. Future relationship negotiations between the EU and UK continue this week, into the EU summit on Thursday and Friday. A French minister said that talks may continue through to early November.

    [EUR, USD]
    EUR-USD has been maintaining a narrow range in the lower 1.1800s, below Friday's three-week peak at 1.1832. ECB chief economist Lane said that the surge in Covid cases in Europe, and the resulting restrictions, puts a question mark over the economic rebound. While hardly telling us anything we weren't already aware of, the evident strengthening in dovish signalling, including specific mention of exchange rates, from ECB policymakers over the last month has been an effective countervail to dollar weakness. The ECB would be more tolerant of euro gains if economic prospects were looking a lot brighter, but this is obviously not the case given renewed restrictions and now widespread localized lockdowns in Europe, with the winter ahead looking to be a grim one. With Covid cases surging in both Europe and across the more northerly U.S. states, the case for safe-haven driven dollar outperformance can also been made. We remain dollar bearish in the big picture, but this hinges on the global growth outlook improving, and that in turn will hinge on the world getting through the Covid crisis. The next few weeks should be telling in terms of judging the actual impact, as measured by ICU admissions and mortalities, of the recent and ongoing billowing in positive Covid test results as compared to the impact seen back in March/April. Another concern is that major economies may becoming stuck in a liquidity trap, and the associated risk of rising loan defaults following an epic era of credit expansion. Expansive fiscal policy would be an answer

    [USD, JPY]
    USD-JPY nudged moderately lower and posted a one-week low at 105.43. EUR-JPY and other yen crosses have also seen downside drift, although most have remained above their respective Friday lows. The yen's firmness was somewhat incongruous with a sharp rally across stock markets in Asia, which lifted the MSCI Asia-Pacific index by over 1% to a two-and-a-half year high. China's yuan weakened nearly 0.5% after the PBoC removed a bank reserve requirement on yuan forward contracts, which signalled that policymakers have been concerned about the currency's recent gains. This fuelled a near 2.5% rally in China's bellwether CSI 300 index. The yuan is up by over 7% on the dollar from May, having been underpinned by favourable growth and interest rate differentials, and had popped higher last week after polls showed a widening poll advantage for Joe Biden, who most consider would adopt a constructive engagement with China, at least compared to Trump. The country, and South East Asia more generally, are looking in much better shape than North America and Europe with regard to the Covid situation. This, in turn, may be supporting the yen. Data out of Japan showed August core machinery orders beating expectations in rising 0.2% m/m, while September PPI came in at -0.8% y/y, below the median forecast for -0.5% y/y. With core CPI negative, and headline CPI threatening to follow, this will have a tightening effect on real interest rates in Japan, which in turn is a yen support. The yen 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]
    Sterling has taken a rotation lower, though continues to some a moderate gain versus peer currencies from week ago levels. Future relationship negotiations between the EU and UK continue this week, into the EU summit on Thursday and Friday. A French minister said that talks may continue through to early November. Boris Johnson told Germany's Merkel that "significant gaps" remain to be bridged, while the European Council President said that the UK needed to take "significant steps" to secure a deal. EU trade diplomat Barnier said on Friday that the UK needs to make a few more concessions before the final intense phase of negotiations could proceed. Despite the public hard talk and brinkmanship, and some confusing headlines, there have been reports from behind the scenes of motion toward finding a compromise on key issues from both UK and EU sources. The fact that negotiations have intensified over the last week also shows that both sides are eager for a deal. We expect a limited free trade agreement, though cannot absolutely rule out a no-deal scenario. Fishing rights and level playing field rules (in particular state aid rules) are the principal obstacles. France is the main objector to UK demands on fishing, but is under pressure from other EU nations to make concessions. A recent BBC article reported that EU diplomats are hoping that "guiding principles" in place of strict adherence to level playing field rules, alongside measures to resolve future disputes, may be the route to compromise on that front. The FT reported today that the EU will insist on tough enforcement powers, which is something the powerful hard-Brexit faction in Johnson's party won't like the sound of. Any news of a deal would likely boost sterling over the near term, but even with a deal, and even with the UK's progress in signing continuity agreements with non-EU trading partners, the UK will see its terms of trade position deteriorate. It has also become increasingly clear that London's European dominance in financial services will be eroded, deal or not. Add in surging new Covid cases in the UK, increasing odds for the BoE to go negative on interest rates, and we have a pound-bearish recipe.

    [USD, CHF]
    EUR-CHF has ebbed back under 1.0800 again, reflecting the chronic proclivity for the Swiss currency to rise in nominal terms, from incoming interest and other investment receipts from assets held abroad, alongside the trade surplus. A higher franc drives down inflation, which to a degree offsets any loss in export competitiveness that a nominally firmer currency might otherwise entail, as there is a high import component in Swiss exports. The SNB, however, remains committed to limiting gains in the franc. At its quarterly monetary policy review last month, it stated that the franc remains "highly valued" and said it 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, even though 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 remains below the seven-month peak that was seen in early June at 1.0921.

    [USD, CAD]
    USD-CAD has settled in a narrow range today after dropping sharply last week, culminating in Friday's one-month low at 1.3107. Oil prices have ebbed back after surging by nearly 10% last week. On Canada's domestic front, rising positive Covid tests are becoming a problem as they are leading to economically disruptive restrictions.

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