Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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FX Update: Is this US dollar finally for turning lower?
John J. Hardy
Chief Macro Strategist
Summary: The US dollar saw a boost on the calendar roll and in the knee-jerk reaction to the US assassination of the Iranian commander, but keep our eyes open for a follow up move lower here in the greenback on the outlook for the Fed to continue its involuntary accommodation of US budget deficits in order to maintain orderly financial conditions.
Markets are still absorbing the geopolitical concerns triggered by the US assassination of Iran’s top military commander in Iraq late last week, as both oil and gold prices spiked further to start the week. Iran is pulling out of former commitments on nuclear agreements and the Trump administration is making dire noises about an overwhelming response to any Iranian retaliation. I’ve no idea how Iran eventually responds, but would imagine that any more pointed response would take some time – likely months - for laying the groundwork for, and that any response is likely to be asymmetric (non-“WWIII”, perhaps cyber-related and/or aimed at oil facilities or economic disruption) and aimed at humiliating Trump in the run up to the US election.
In the meantime, we have a simmering situation that may fail to throw off notable headlines in the coming days and weeks, allowing us to quickly shift back to the themes that were in focus on the transition to the 2020 calendar year before this latest distraction. The chief theme is whether the US dollar is finally rolling over in a more determined fashion after running lower into year-end as the Fed has no choice but to expand its balance sheet to monetise US budget deficits if it wants to avoid disruptive conditions for US liquidity (essentially, a loss of control in its interest rate policy).
The scale of the Fed’s balance sheet expansion would have to accelerate further in the event the US economy is headed for a recession. Key data this week will be the first to set the tone as the year gets underway as we get a look at the US holiday season results, the ISM Non-manufacturing up tomorrow and the December jobs report this Friday.
Chart: EURUSD
EURUSD staged a breakout in the last days of 2019, but the quality of a breakout in thin liquidity conditions and with the known year-end factors linked to USD liquidity was always going to be suspect. Then we got the US-Iran confrontation in the first trading days of the year suggesting the breakout was a false one. We’re keeping an open mind that it may finally be time for the USD to run lower versus the single currency and the first sign as such would be a solid close well above 1.1200 as we revert to more normal trading conditions free of calendar effects.
The G-10 rundown
USD – the US dollar dipping again today on what is arguably the first real trading day of the year as traders return from the holidays in the US and Europe – looking for technical signs across USD pairs
EUR – the final services PMI data out of Europe nudged a bit higher and we watch EURUSD for a significant move above 1.1200 for a sign that a real shift is occurring in the pair.
JPY – the yen absorbing safe haven flows on the geopolitical distractions, but if the headline risk quickly calms in the near term, we could see the yen in a race to the bottom with the US dollar.
GBP – looking at how the economy in the UK picks up from here – or not, but GBPUSD looking comfortable above 1.3000 while EURGBP has work to do to the downside to suggest that isolated sterling strength is present. January data will be the first full month clear of most Brexit distractions in a long time.
CHF – the geopolitical situation has EURCHF pegged near the cycle lows and the latest sight deposit data from Switzerland shows that they are leaning hard against franc strength.
AUD – the Australian bush fires are going to impact Australian growth and the RBA will step in with a rate cut in February, but for now, the move higher in AUDUSD is surviving above the key 0.6900-25 support area and if China manages to stabilize we could see an extension to the next targets into 0.7225-50. If ever there was an excuse for a currency-positive fiscal expansion Down Under, this is it.
CAD – The Canadian dollar is on a roll as the crude oil rally supports on the fundamental side. We still have our concerns for the currency on a weakening of the US economy, but as long as USDCAD sustains the break below 1.3000, we have open up new territory to the downside.
NZD – the kiwi is too dear in the longer term picture versus the Aussie and the recent congestion and lack of directionality now that we have reached the 1.04-1.05 zone suggests that the market . We like the upside in the longer term from these levels in AUDNZD.
SEK – the Swedish krona doesn’t like risk-off, but assuming we’re not about to suffer a major meltdown in risky assets, EURSEK bears may look for shorting as long as we stay below 9.62-65, with the 200-day moving average in the heart of that zone.
NOK – EURNOK in mostly sideways action as the pair has reached a key objective in the 9.85 area and the strong oil prices support NOK, while risk-off is a head-wind. Barring a meltdown in risk appetite, we still like the idea of the pair finding resistance ahead of 10.00 for a fresh move lower into the 9.60 area.
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