FX Update: USDJPY suddenly points to a chink in USD bears’ armor

The USD ended the week and the month on Friday with a sharp short squeeze with no readily identifiable trigger, save perhaps for increasingly crowded USD bears’ taking profit ahead of the weekend after a particularly steep sell-off in the USD last week. End-of-month flows may have been in play, with the EURUSD ending July some 4.8% higher than it started the month, its strongest calendar month performance in almost 10 years. After the brutal move higher in EURUSD, the retracement looks innocuous enough, but the USDJPY technical situation looks far different, as the USD back-up there was both more forceful and occurred after the pair looked below the key 104.50 area we discussed a great deal last week.

US weekly IMM futures show the USD short at its largest since early 2018, the vast majority of that in EURUSD, where the net speculative long position vaulted beyond the early 2018 highs to the highest level ever at 158k contracts as of last Tuesday. Elsewhere, US futures traders remain modestly long of Japanese yen versus the US dollar and oddly short the pound sterling, given that positioning usually at least weakly echoes trend direction.

Looking ahead, the primary initial focus has to be on the next round of US stimulus and how soon the White House can hammer a deal into place with the Dems to avoid denting US confidence and the growth outlook (Trump’s side must be particularly motivated sooner rather than later to avoid disruptive outcomes), particularly now that Trump is getting a bit of momentum in the polls as the coronavirus numbers are possibly turning for the better. The market seems quite sure that a deal will be made soon. Until then, the euro seems to have gotten ahead of itself and, given the positioning headwinds mentioned above for euro bulls, not to mention other factors are rather loudly failing to support a weak USD narrative in the background (most notably the lack of Fed balance sheet growth for over two months), a bout of consolidation may set in – with 1.1626 the first major retracement for the latest wave higher.

In EM, we note two FX stories of interest: Turkey and Russia. The FT and the WSJ (paywalls) are both out with pieces detailing Turkey’s aggressive attempt to stimulate and intervene its way out of trouble and the risky gambit it is making that the virus fears will fade soon and see a powerful resurgence in tourist arrivals and the economy more broadly. Negative net reserves is risky business for the Turkish lira’s stability, as the government there has dipped into its banks’ and savers’ US dollars to intervene in the FX market to the tune of $60 billion this year. With the USD so weak of late, it’s worth having a glance at EURTRY, which recently took out the all-time highs from the summer 2018 panic (yes – not terribly relevant given all of the carry differential since then, but worth noting as Turkey seems to be trying to defend 7.00 in USDTRY.)

As for Russian, it appears the latest sharp weakening in the ruble is likely linked with the election  in Belarus for this coming Sunday, with accusations from the Lukashenko-led Belarussian government that Russia sent militants to disrupt the election while the government also deals with a loud new opposition that has motivated the largest public demonstrations since the fall of the Soviet Union after a leading opposition figure was arrested and his wife runs in his stead. Ruble asset holders and traders are perhaps drawing parallels with the Ukraine situation back in 2014-15. The EURRUB closed July just below its highest level since early 2016.

Chart: USDJPY
The most notable technical reversal in major USD pair was in USDJPY, which looked below the pivotal 104.50 area (multiple tests with not weekly close below since 2018) on Friday, only to rally viciously into the close. A close above 106.00-50 suggests the pair is set to remain stuck in the wide range between 105 and 114.50 established since early 2017.