Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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Is the CNY back in play?
John J. Hardy
Chief Macro Strategist
Summary: Developments over the weekend point to no easy path forward for US-China trade talks, and risk appetite is suffering a fresh case of whiplash after an attempt to put on brave face ahead of the weekend. An expansion of CNY volatility in Monday’s session demands our full attention.
The currency market has not been the place to look for a reaction to the ebb and flow of US-China trade talk headlines. Yes, some EM currencies have finally suffered a more notable jolt to start the week and the commodity dollars are offered on weaker risk sentiment, but an overriding sense of complacency persists.
Much of the lack of volatility, we assume, is linked not to just general uncertainty, but the assumption that the Chinese commitment to renminbi policy – the assumed 7.00 cap on USDCNY – is unshakeable. With the latest leg of the price action showing the USDCNY rate climbing uncomfortably close to the 6.90 area (and USDCNH pushing higher still and actually touching 6.90 overnight), whether China’s response to the stand-off will include allowing the CNY to drift lower, especially as China lacks leverage to respond symmetrically on trade tariffs, given the imbalances in trade volumes between the two countries.
China’s three demands for further progression, as advanced by China’s top trade negotiator Liu He the trade negotiations look a difficult ask – especially the first one (US tariffs must be reversed) and it appears the stand-off is set to last for some time, perhaps at least until the Jun 28-29 G20 meeting in Osaka, Japan. In the meantime, traders should beware the risk of a dramatic rise in volatility in FX if China’s commitment to the 7.00 ceiling in USDCNY is abandoned. We can’t help but feel that the thousand-dollar advance in the Bitcoin price over the weekend may have something to do with speculating on that eventuality.
So both eyes on trade talks and CNY developments this week – all else pales in comparison.
Trading interest
Light positioning with some optionality in the event of a CNY weakening – USDCAD calls are far cheaper than AUDUSD puts in implied vol terms (barely over 5% for USDCAD 1-month), though this may be for good reason – a little exposure to both for the 1-month to 2-month horizon, the latter reaching beyond the late June G20 meeting in Osaka, where Trump and Xi may or may not meet.
Chart: USDCNH
The USDCNY rate getting uncomfortably close to the top of range if the operating assumption is that China won’t step away from its commitment to the CNY floor as long as trade talks with the US are ongoing. The price action in USDCNH, the offshore version of the USDCNY rate has stretched more than half a percent beyond the move in the CNY move, nearly matching the widest spread between the two rates over the last couple of years.
Much of the lack of volatility, we assume, is linked not to just general uncertainty, but the assumption that the Chinese commitment to renminbi policy – the assumed 7.00 cap on USDCNY – is unshakeable. With the latest leg of the price action showing the USDCNY rate climbing uncomfortably close to the 6.90 area (and USDCNH pushing higher still and actually touching 6.90 overnight), whether China’s response to the stand-off will include allowing the CNY to drift lower, especially as China lacks leverage to respond symmetrically on trade tariffs, given the imbalances in trade volumes between the two countries.
China’s three demands for further progression, as advanced by China’s top trade negotiator Liu He the trade negotiations look a difficult ask – especially the first one (US tariffs must be reversed) and it appears the stand-off is set to last for some time, perhaps at least until the Jun 28-29 G20 meeting in Osaka, Japan. In the meantime, traders should beware the risk of a dramatic rise in volatility in FX if China’s commitment to the 7.00 ceiling in USDCNY is abandoned. We can’t help but feel that the thousand-dollar advance in the Bitcoin price over the weekend may have something to do with speculating on that eventuality.
So both eyes on trade talks and CNY developments this week – all else pales in comparison.
Trading interest
Light positioning with some optionality in the event of a CNY weakening – USDCAD calls are far cheaper than AUDUSD puts in implied vol terms (barely over 5% for USDCAD 1-month), though this may be for good reason – a little exposure to both for the 1-month to 2-month horizon, the latter reaching beyond the late June G20 meeting in Osaka, where Trump and Xi may or may not meet.
Chart: USDCNH
The USDCNY rate getting uncomfortably close to the top of range if the operating assumption is that China won’t step away from its commitment to the CNY floor as long as trade talks with the US are ongoing. The price action in USDCNH, the offshore version of the USDCNY rate has stretched more than half a percent beyond the move in the CNY move, nearly matching the widest spread between the two rates over the last couple of years.
The G10 rundown
USD – the greenback should remain firm, perhaps outside of USDJPY, as long as risk appetite is in the cellar.
EUR – the euro managing to keep pace with the US dollar through the various gyrations of risk appetite, so the single currency not at most risk here seemingly, though reduced trade volumes are a risk as there are no winners in US-China trade showdown.
JPY – the yen tracking stronger in sync with risk sentiment declines and will likely remain a barometer of risk swings, fair or not.
GBP – sterling struggling near 1.3000 in GBPUSD and we don’t see any chance for near-term clarity on Brexit, leaving the currency vulnerable.
CHF – the safe haven angle on franc was nowhere to be seen recently but has now put in a sudden appearance - is this down to the sudden fear that the CNY floor could be in play?
AUD – AUDUSD deservedly back below 0.7000 on the latest US-China trade tension concerns, the question is whether the pair can extend into new downside territory without a CNY devaluation.
CAD - A strong close for CAD on Friday on the back of an absurd bump in Canadian payrolls (there is a long history of volatility in the data series) together with hopes that the US-China trade tensions would soon fade has yielded to a bounce that has already erased much of the sell-off.
NZD – the kiwi seems to show less beta to China-inspired risk off, fair or not.
SEK and NOK – the Scandies showed signs of resilience on Friday’s optimistic market close, but they risk renewed tough sledding if risk sentiment deteriorates again.
USD – the greenback should remain firm, perhaps outside of USDJPY, as long as risk appetite is in the cellar.
EUR – the euro managing to keep pace with the US dollar through the various gyrations of risk appetite, so the single currency not at most risk here seemingly, though reduced trade volumes are a risk as there are no winners in US-China trade showdown.
JPY – the yen tracking stronger in sync with risk sentiment declines and will likely remain a barometer of risk swings, fair or not.
GBP – sterling struggling near 1.3000 in GBPUSD and we don’t see any chance for near-term clarity on Brexit, leaving the currency vulnerable.
CHF – the safe haven angle on franc was nowhere to be seen recently but has now put in a sudden appearance - is this down to the sudden fear that the CNY floor could be in play?
AUD – AUDUSD deservedly back below 0.7000 on the latest US-China trade tension concerns, the question is whether the pair can extend into new downside territory without a CNY devaluation.
CAD - A strong close for CAD on Friday on the back of an absurd bump in Canadian payrolls (there is a long history of volatility in the data series) together with hopes that the US-China trade tensions would soon fade has yielded to a bounce that has already erased much of the sell-off.
NZD – the kiwi seems to show less beta to China-inspired risk off, fair or not.
SEK and NOK – the Scandies showed signs of resilience on Friday’s optimistic market close, but they risk renewed tough sledding if risk sentiment deteriorates again.
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