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By XE Market Analysis October 13, 2020 7:38 am
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    XE Market Analysis: North America - Oct 13, 2020

    The dollar and to a lesser extent the yen shifted higher on a bout of risk-off positioning. News that Johnson & Johnson hit the pause button on its Covid vaccine trial due to an "unexplained illness" in one of the participants was the catalyst. There are a plethora of other candidate vaccines at advanced trial stages, but the news nonetheless sparked a rush for cover before tapering off. Concerns about U.S. fiscal stimulus, or lack thereof, and about the risk of the upcoming U.S. election being contested, along with billowing new Covid cases in Europe and across parts of North America, also remain on the worry list. S&P E-minis were down 0.6% as of noon in London, while the 10-year U.S. T-note yield was down 2.3 bp, at 0.754%. The USD index (DXY) posted a high at 93.27, which retraced some of Friday's declines, while EUR-USD concurrently ebbed to a four-day low at 1.1779. The pound has been trading steadily, belying a market that is on tenterhooks with future relationship talks between the EU and UK now at make-or-break stage. Spain and France are threatening to veto unless their demands for no change to their prevailing access to British waters are met, upping the ante significantly. Elsewhere, USD-JPY has steadied in the mid 105.0s after running lower over the last three days. AUD-USD printed a low at 0.7165, extending the correction from Friday's 22-day high at 0.7244. The Aussie dollar's weakness came despite strong import data out of China -- normally a strong buying cue but countervailed by: one, a Bloomberg report, citing sources, that China will be banning the import of Australian coal, marking an escalation in trade tensions; and two, weakness in the yuan after the PBoC yesterday removed a bank reserve requirement on yuan forward contracts. The reserve requirement shift will effect more two-way flow in the yuan by facilitating hedging of both domestic companies and foreign investors, though the outlook for the currency remains unambiguously bullish, given markedly favourable growth and interest rate differentials and China's solid balance of payments fundamentals.

    [EUR, USD]
    EUR-USD ebbed to a four-day low at 1.1779, driven lower by a generally firmer dollar. An ongoing salvo of dovish signalling from ECB policymakers has not resulted in outright euro declines (the EUR-CHF cross being an exception), though has likely be contributory in offsetting dollar weakness recently. Aside from the Fed itself, and partly in response to, many other central banks have been conducting similar messaging campaigns. The dollar, meanwhile, is higher today as risk-off positioning takes a grip in early European markets following news that Johnson & Johnson has hit the pause button on its Covid vaccine trial due to an "unexplained illness" in one of the participants. There are a plethora of other candidate vaccines at advanced trial stages, but the news nonetheless sparked a rush for cover. We remain dollar bearish in the big picture, but given the proclivity for capital to harbour in the safety of U.S. Treasuries, this hinges on the global growth outlook establishing a sustainable improving trend, and that in turn may hinge on the world getting through the Covid crisis. The world perhaps may want to get on the other side of the upcoming U.S. elections, too, given the concerns of the election being contested and the prevailing political balance failing to produce a much-needed fiscal package. Much needed given the incipient signs of the U.S. economy sinking into a liquidity trap (the hoarding of cash rendering monetary stimulus increasing impotent). Regarding the Covid situation in Europe and northern parts of North America, the next few weeks should be telling in terms of judging the actual public health impact -- as measured by ICU admissions and mortalities -- from the recent and ongoing billowing in positive Covid test results as compared to the impact seen back in March/April. If the actual public health impact remains low, which the herd immunity crowd argue it will (aside from arguing that community immunity is being underestimated, they point to the risk of false positive Covid test results fuelling what they call a 'case-demic', as seen in the winter season following the 2008-09 swine flu episode), then presumably there may be scope for reversing restrictions. If not, it'll be down to a vaccine to save the day.

    [USD, JPY]
    USD-JPY has steadied in the mid 105.0s after running lower over the last three days. The yen has traded firmer against most other currencies, however, having been lifted, like the dollar, by safe haven demand on a bout of risk-off positioning following news that Johnson & Johnson hit the pause button on its Covid vaccine trial. Japanese data data today included a record 7.4% y/y rise in money supply as measured by M3, which is the broadest money aggregate. Not exactly a market mover, but given negative core inflation readings in Japan, illustrative of the chronic liquidity funk the Japanese is in. At the same time, the negative inflation print has a tightening impact on real interest rates, which in turn imparts a positive bias on the yen. The biggest directional force on the Japanese currency will remain 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]
    The pound has been trading steadily, belying a market that is on tenterhooks with the future relationship talks between the EU and UK now at make-or-break stage. While there have been encouraging reports of progress, and while the recent intensification of negotiations and engagement of state leaders suggests that both sides want a deal, there remain concerns. Spain and France are threatening to veto unless their demands for no change to the level of access their fisherman have to operate in British waters are met. This ups the ante significantly. It may seem difficult to believe that fishing rights would scupper a deal, given the small percentage contribution to GDP, but this is a highly sensitive area politically for all of the countries concerned. Level playing field rules, in particular state aid rules, is the other principal obstacle, being a fundamental demand of the powerful hard-Brexit ERG group in Boris Johnson's Tory party. 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 yesterday that the EU will insist on tough enforcement powers, which is something the ERG won't like the sound of. We still expect a limited free trade agreement given the explosive economic impact a no-deal exit will have (especially given the Covid situation), which would involve Johnson -- very much in a weak negotiating position -- disappointing the ERG and perhaps conceding on fishing. A no-deal scenario cannot by ruled out, and the extreme hawkishness of France on fishing increases the odds. 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's become increasingly clear that London's financial services pre-eminence will erode, deal or not. A subcommittee in the UK parliament concluded that professional firms in the UK (accountants, lawyers, recruiters etc) risk losing GBP 225 bln worth of business unless there is a bespoke agreement included in a trade deal.

    [USD, CHF]
    The Swiss franc has been continuing to trade with a firming bias, consistently rebounding from bouts of weakness in recent months. This has seen EUR-CHF repeatedly ebb back from brief forays above 1.0800, and the cross has fallen to the lower 1.0700s in the latest phase as markets anticipate revamped monetary easing measures from the ECB. The franc has a proclivity to ascend on the influence of incoming interest and other domestically owned investment receipts from assets held abroad, alongside net inflows generated by Switzerland's trade surplus. A higher franc has been imparting deflation, 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 the production of Swiss exports (perpetuating the nominal trend by limiting the decline in the real effective exchange rate). The SNB, nonetheless, explicitly targets the exchange rate as one of the means to achieve its policy goals. At its quarterly monetary policy review last month, the central bank stated that the franc remains "highly valued" and said it is ready to "intervene more strongly in the foreign exchange market".

    [USD, CAD]
    USD-CAD is firmer and have scope to run higher against a risk-wary backdrop in global markets and with oil prices have dropped by about 5% over the last couple of days. The pair has posted a high at 1.3145, rebounding from yesterday's one-month low at 1.3099. On Canada's domestic front, rising positive Covid tests are becoming a problem as they are leading to economically disruptive restrictions, similar to Europe and parts of the U.S.

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