FX Update: The USD cannot sustain pro-cyclical strength for long
Summary: The US dollar has supposedly become a pro-cyclical currency, enjoying the strength from strong economic performance and a surge in longer yields, but can we really continue to see a rising US dollar, rising US yields and rising risk sentiment for much longer? The US labour market report later today the next test on that front. Elsewhere, sterling has broken fresh ground and looks ready to trend higher.
FX Trading focus: Something contradictory in current USD developments.
We discussed this on this morning’s Saxo Market Call podcast, but it looks odd that the US dollar seems to be trading as a pro-cyclical currency, moving up in line with strong US data and higher US yields and higher risk sentiment. This is very much against the pattern of much of 2020 and the post pandemic outbreak experience. And on that note, something doesn’t feel right, because a stronger US dollar and higher US long rates are tighteners of liquidity and this is a market that has built itself aggressively on the assumption of an extremely accommodative policy stance and endless liquidity. At some point soon, especially if yields rise quickly from current levels, I would expect volatility in risk assets to ratchet higher and some of the speculative froth to come out of the market. But in such a case, would the USD then also prove a safe haven currency and stay firm? I suspect it would versus G10 small currencies and EM currencies, but I have a hard time believing that the USD is win-win proposition.
Something doesn’t feel right here – perhaps today’s US jobs report will provide some enlightenment, especially if it fits with other recent labor market data and is notably stronger than expected. Do yields continue to pull higher? If they do so, will risk sentiment fret the implications, etc.? Further out, if a huge post-vaccine boom awaits, it should be especially strong in the US with additional stimulus coming on-line soon there and inflation should overshoot the worst there initially, and meaning lower real yields (yield after inflation) than elsewhere. (That is, unless, as I asked in a recent post, inflation is more globalized, which allows the USD to hold its own a bit better as other FX would be more quickly impacted by falling real rates on higher inflation – the EUR but especially the JPY certainly at risk if we are talking about an all-out inflationary scenario in energy).
The January US Nonfarm Payrolls change for today is expected around +100k vs. the -140k notched in December, while the ADP number registered a +174k gain for Jan. The Covid case count in the US is falling like a stone – with the 7-day moving average down by almost 50% in the just over three weeks since the peak. The US was never good at locking down and a horde of service jobs will come back quickly once normal activity can get the green light – hopefully soon.
Chart: EURUSD at a crossroads
EURUSD has broken down through the key 1.2000 area and the upward loping trendline and is now having a look at the 100-day moving average. If the pair cannot stage a strong recovery here back well above 1.200 and heads even further south to below the 61.8% Fibonacci retracement around 1.1890, the prospect for a test of the 1.1600 old range low or even a push all the way to 1.1500 begin to open up, which would require a reassessment of the weaker USD narrative for at least the medium term. In short, EURUSD looks at a crossroads here.
Sterling ready to trend?
I broke down the sterling reaction to the Bank of England meeting yesterday, with the headlins simply that taking away the NIRP option for the foreseeable future is a green light for capital inflows. The entire UK yield curve lifted higher yesterday as well, and some are even seeing signs that the Bank is turning toward an outright removal of accommodation, and the 2-year Gilt yield shifting from -18 basis points at the very beginning of the year to -11 basis points before the meeting to over -4 basis points now suggests that expectations for the BoE have indeed achieved a shift that could prove secular. And as for sterling, looking at where it is coming from on charts from GBPAUD and EURGBP, the pound looks ready to trend to the upside for a while.
John Hardy
Head of FX Strategy
Disclaimer
The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website. This content is not intended to and does not change or expand on the execution-only service. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.
FX Trading focus: Something contradictory in current USD developments.
We discussed this on this morning’s Saxo Market Call podcast, but it looks odd that the US dollar seems to be trading as a pro-cyclical currency, moving up in line with strong US data and higher US yields and higher risk sentiment. This is very much against the pattern of much of 2020 and the post pandemic outbreak experience. And on that note, something doesn’t feel right, because a stronger US dollar and higher US long rates are tighteners of liquidity and this is a market that has built itself aggressively on the assumption of an extremely accommodative policy stance and endless liquidity. At some point soon, especially if yields rise quickly from current levels, I would expect volatility in risk assets to ratchet higher and some of the speculative froth to come out of the market. But in such a case, would the USD then also prove a safe haven currency and stay firm? I suspect it would versus G10 small currencies and EM currencies, but I have a hard time believing that the USD is win-win proposition.
Something doesn’t feel right here – perhaps today’s US jobs report will provide some enlightenment, especially if it fits with other recent labor market data and is notably stronger than expected. Do yields continue to pull higher? If they do so, will risk sentiment fret the implications, etc.? Further out, if a huge post-vaccine boom awaits, it should be especially strong in the US with additional stimulus coming on-line soon there and inflation should overshoot the worst there initially, and meaning lower real yields (yield after inflation) than elsewhere. (That is, unless, as I asked in a recent post, inflation is more globalized, which allows the USD to hold its own a bit better as other FX would be more quickly impacted by falling real rates on higher inflation – the EUR but especially the JPY certainly at risk if we are talking about an all-out inflationary scenario in energy).
The January US Nonfarm Payrolls change for today is expected around +100k vs. the -140k notched in December, while the ADP number registered a +174k gain for Jan. The Covid case count in the US is falling like a stone – with the 7-day moving average down by almost 50% in the just over three weeks since the peak. The US was never good at locking down and a horde of service jobs will come back quickly once normal activity can get the green light – hopefully soon.
Chart: EURUSD at a crossroads
EURUSD has broken down through the key 1.2000 area and the upward loping trendline and is now having a look at the 100-day moving average. If the pair cannot stage a strong recovery here back well above 1.200 and heads even further south to below the 61.8% Fibonacci retracement around 1.1890, the prospect for a test of the 1.1600 old range low or even a push all the way to 1.1500 begin to open up, which would require a reassessment of the weaker USD narrative for at least the medium term. In short, EURUSD looks at a crossroads here.
Sterling ready to trend?
I broke down the sterling reaction to the Bank of England meeting yesterday, with the headlins simply that taking away the NIRP option for the foreseeable future is a green light for capital inflows. The entire UK yield curve lifted higher yesterday as well, and some are even seeing signs that the Bank is turning toward an outright removal of accommodation, and the 2-year Gilt yield shifting from -18 basis points at the very beginning of the year to -11 basis points before the meeting to over -4 basis points now suggests that expectations for the BoE have indeed achieved a shift that could prove secular. And as for sterling, looking at where it is coming from on charts from GBPAUD and EURGBP, the pound looks ready to trend to the upside for a while.
John Hardy
Head of FX Strategy
Disclaimer
The Saxo Bank Group entities each provide execution-only service and access to Analysis permitting a person to view and/or use content available on or via the website. This content is not intended to and does not change or expand on the execution-only service. Such access and use are at all times subject to (i) The Terms of Use; (ii) Full Disclaimer; (iii) The Risk Warning; (iv) the Rules of Engagement and (v) Notices applying to Saxo News & Research and/or its content in addition (where relevant) to the terms governing the use of hyperlinks on the website of a member of the Saxo Bank Group by which access to Saxo News & Research is gained. Such content is therefore provided as no more than information. In particular no advice is intended to be provided or to be relied on as provided nor endorsed by any Saxo Bank Group entity; nor is it to be construed as solicitation or an incentive provided to subscribe for or sell or purchase any financial instrument. All trading or investments you make must be pursuant to your own unprompted and informed self-directed decision. As such no Saxo Bank Group entity will have or be liable for any losses that you may sustain as a result of any investment decision made in reliance on information which is available on Saxo News & Research or as a result of the use of the Saxo News & Research. Orders given and trades effected are deemed intended to be given or effected for the account of the customer with the Saxo Bank Group entity operating in the jurisdiction in which the customer resides and/or with whom the customer opened and maintains his/her trading account. Saxo News & Research does not contain (and should not be construed as containing) financial, investment, tax or trading advice or advice of any sort offered, recommended or endorsed by Saxo Bank Group and should not be construed as a record of our trading prices, or as an offer, incentive or solicitation for the subscription, sale or purchase in any financial instrument. To the extent that any content is construed as investment research, you must note and accept that the content was not intended to and has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such, would be considered as a marketing communication under relevant laws.
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