FX Update: JPY remains top dog

Trading interest

• Maintaining long AUDNZD with stops below 1.0420 for 1.0625 and eventually 1.0700
• Maintaining half position short AUDUSD –as long as price action remains below 0.6860
• Shorting EURJPY for 112.00 as long as remains below 119.50

A Bloomberg article out this morning highlights tight conditions for USD liquidity with a look at the currency swaps market, where there are signs of strain as basis swaps make lending in USD expensive. The article offers examples that illuminate the difficulties for foreign bond investors – particularly Japanese investors, to realize attractive returns or any returns at all on a hedged basis. Aggravated USD liquidity shortages are a wrecking ball for global assets - particularly in emerging markets.

The leader of Italy’s Lega party, Matteo Salvini faces a tough path to snap elections due to the need to pass a budget this fall – according to an FT article (paywall), “No election has been held in the early autumn since 1919.” Parliament is out of session but returns inside of two weeks, when it will hold a no-confidence vote. Italy’s yields spiked versus core EU yields (10-year Germany-Italy spread rose about 30 bps) on Salvini announcing he would like new elections as the market anticipates existential EU strain linked to Salvini demands for more generous fiscal outlays. While the timing of an election is uncertain, Lega’s popularity has risen in the polls sufficiently to indicate that a centre-right majority coalition might be possible with Berlusconi’s Forza Italia and the Brothers of Italy party.

Late last week we suggested markets are at pivotal levels after the partial recovery from last week’s latest US-China trade tension escalation. Within G-10 currencies, AUDUSD is our basic proxy, where the focus remains lower as long as we remain below the 0.6825-50 area. Remarkably, the Japanese yen continues to grind higher and didn’t need much support from bond markets as USDJPY scrapes new lows. With Trump threatening sanctions and intervention on any major trade partner moving to ease monetary policy, the BoJ policy mix looks unmovable for now. A continued run lower in USDJPY toward at least 100.00 looks possible. Concerns that the EU will remain slow to respond to the growth slowdown and the risks to the economy from Brexit could keep EURJPY on a downward trajectory to the 110.00 area.

The economic calendar for the week ahead is rather light, but a few interesting points, including tomorrow’s German ZEW survey for August – after July saw the worst Current Situation component since 2010. Also tomorrow we have the US July CPI data.  Wednesday sees Germany’s Q2 GDP estimate (expected negative) as well as the EU GDP estimate. Thursday’s Norges Bank meeting is the central bank highlight of the week in G10. More discussion of individual calendar highlights in the G10 rundown below.

Chart: EURJPY
EURJPY saw its lowest weekly close since early 2017 last week and could continue to grind lower as the BoJ look set to maintain course while the rest of the world eases and the EU is in a world of hurt with the risk of a recession that could risks further aggravation from a hard Brexit. Not much in the way of support in the longer term chart here until down towards 110.00.