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By XE Market Analysis October 26, 2020 7:55 am
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    XE Market Analysis: North America - Oct 26, 2020

    The dollar, pound and Australian dollar rose against most other peer currencies, with the euro, Canadian dollar and, to a lesser extent, the yen among the weakening pack. This came against a backdrop of nervous asset markets. S&P 500 futures were showing a 0.9% decline as of the late London morning, European stock markets off sharply (Germany's DAX by just over 2%), and most commodity markets were lower, too. Front-month WTI oil futures dropped about 3% in posting a three-week low at $38.42. The drop in crude drove the Canadian dollar and other oil correlating currencies lower, lifting USD-CAD to a six-day high at 1.3188. The Canadian currency diverged from its dollar bloc peers, with the Australian and Zealand dollars rising. The apparent containment of Covid across Asia, and Australia and New Zealand, has seen stock markets there outperform relative to European and North American markets, where cases are billowing. The state of Victoria in Australia announced that it is coming out of lockdown. AUD-USD lifted to a 0.7147 high, despite an otherwise generally firm U.S. currency, which is 13 pips shy of Friday's 11-day peak, and EUR-AUD hit a one-week low. EUR-USD, meanwhile, declined to the lower 1.1800s from levels above 1.1850. The surge in positive Covid test results in Europe is leading to increasingly draconian restrictions across the continent and UK. Despite this, the pound rallied. Cable hit to a 1.3075 high, up over 80 pips from the earlier lower. This is an expression of the currency market's view that the EU and UK are heading to a trade deal. EU trade envoy Barnier and his team have extended their time in London, while Brandon Lewis, a senior member of Boris Johnson's cabinet, said that "there is a good chance we can get a deal." It is also understood that Germany's Merkel and other EU heads of state are putting pressure on France to compromise on fishing. Elsewhere, USD-JPY lifted to a five-day high at 104.98, though the pair still remained down by about 0.5% from week-ago levels following the sharp drop that was seen last Wednesday. The DXY dollar index gained 0.3% in posting a high at 93.07, which reverses most of the decline see on Friday.

    [EUR, USD]
    EUR-USD has declined to the lower 1.1800s from levels above 1.1850. Once again, the directional shift has been driven by the dollar, which has gained today as global stock markets turn lower. While real interest rate and real yield differentials are moderately, but mechanistically, bullish for EUR-USD, and last week's successful first joint EU offering of social bonds, which will finance a jobs program, has both attracted foreign capital and shored up the reputation of the euro, EUR-USD downside possibilities could become more pronounced if risk aversion in global markets were to intensify to the extent that capital is shifted to the haven offered by the liquid U.S. Treasury market. Global asset markets remain skittish, with investors pondering the uncertainties presented by the surge in Covid cases in Europe and elsewhere, including now in many U.S. states and in Canada, and which are leading to ever more restrictive countermeasures. Ireland and Wales are in full national lockdowns, while Spain has announced a state of emergency. The ongoing delay in new U.S. fiscal stimulus and the event risk posed by the upcoming U.S. elections, particularly the perceived risk of the result being contested, are other uncertainties.

    [USD, JPY]
    USD-JPY is modestly softer after yesterday's rally stalled at 104.93. At levels around 104.70, the pair remains down by 1% on the high seen on Wednesday. The sharp decline was largely driven by dollar weakness, though the U.S. currency has since found a footing. The yen is also firmer against other currencies today. EUR-JPY is down for a third straight day, printing a four-day low at 123.42. AUD-JPY dropped back quite sharply after printing a four-day high (which was seen after an above-forecast composite PMI reading out of Australia). Japanese inflation data showed the headline September CPI rate fall to 0.0% y/y from 0.2% y/y in the month prior. Core CPI lifted slightly, to -0.3% y/y from -0.4% in August. When adjusting for the deflationary impact that the government's travel discount program has been having, core CPI is 0.0% y/y. This compares to the 1.7% y/y in U.S. CPI, which means that, with interest rates at near zero in both countries (Japan's policy rate at -0.1% and the mid range of the U.S. Fed funds target at 0.125%), real interest rates are higher in Japan than they are in the U.S. -- a mild, all else equal, negative for the nominal USD-JPY rate. In other data, Japan preliminary October PMI came in near expectations at 46.7 after the 46.6 reading in September. This is the ninth consecutive month the index has been below 50.0, indicating contraction in the private sector of the economy, and lagging relative to most peer economies, which partly reflects the relatively aged demographic in Japan. Both Japan and China are heading towards resuming travel between the two nations, which reflects the relatively contained status of the Covid coronavirus in Asia. The biggest directional force on the Japanese currency will likely remain shifting risk premia 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, is recognized in the currency market and has established the yen as a low-beta haven currency.

    [GBP, USD]
    The pound has rallied in London trading, driving Cable to a 1.3059 high, up over 60 pips from the earlier lower, and EUR-GBP to a 0.9052 low. This is an expression of the currency market's view that the EU and UK are heading to a trade deal. EU trade envoy Barnier and his team have extended their time in London through to this Wednesday as intensive talks on the future relationship continue. Brandon Lewis, a senior member of Boris Johnson's cabinet, said yesterday that "there is a good chance we can get a deal," and it is understood that Germany's Merkel and other EU heads of state are putting pressure on France to compromise on its demand for unchanged access to UK waters for fishing. The UK wants a Norway-like agreement on fishing, where quotas are agreed annually, which most EU states see as reasonable. While France has threatened to veto an agreement if it doesn't get want it wants, a Reuters article last last week, citing French fishing industry sources, said that Macron's government have warned them to expect a smaller catch, so a step down appears to be in the works. With a no deal scenario now looking much less of a risk, the question now is more focused on how limited or how broad a deal might be between the EU and UK. The consensus is for a narrower rather a broader deal, and we concur with this. But, it should also be considered that the EU and UK might conceivably surprise everyone with a much more comprehensive deal than is being expected. The Covid situation may be a motivation for this, and it should be remembered that the two sides are starting from perfect equivalence, so a broad agreement is entirely feasible. Even some Brexit ideologues in the UK have suggested that maintaining close alignment with EU rules -- for now -- may be the more pragmatic way forward given the Covid stresses, before diverging from EU rules in an evolving process over time. We are bullish on the pound, though consider that the currency might be at risk of sell-on-the fact reaction on news of any concrete breakthroughs in talks.

    [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. This along with Brexit risk, which has been weighing on the euro. 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 rallied to a six-day high at 1.3184, floated by a broadly firmer U.S. dollar and more especially by a sharp drop in oil prices. Front-month WTI crude futures dove about 3% in posting a three-week low at $38.42. USD-CAD has been trending lower since March, though we have been noting trend derailing risks stemming from draconian Covid-related measures as the northern hemisphere heads into winter, which is crimping global growth and, with it, demand for oil.

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