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: Bar is high for negative US payrolls surprise
John J. Hardy
Chief Macro Strategist
Summary: US jobs data today is in the spotlight as a particularly ugly payrolls number will further encourage anticipation of an accelerated trajectory of Fed easing. Given the recent negative slant of US data releases, the US payrolls number will need to print far south of the supposed expectations for around +140k.
The most curious market development yesterday was the quick recovery in risk sentiment from the very weak US ISM Non-manufacturing survey reading for September at 52.6, a number that re-establishes the trend showing a deceleration in the expansion of the US services sector since the beginning of the year. The employment sub-component was a very weak 50.4, the weakest reading since an odd one-off dip in early 2014. I’m holding off judgment on the narrative, but either the bounce was down to the major averages nearing key technical levels (most notably the 200-day moving average in the S&P 500, which was 15 points below yesterday’s low, but the 40-week moving average was touched during yesterday’s session) or the market wants to celebrate an accelerated Fed easing schedule that arrives with bad data, including importantly hopes that Fed balance sheet expansion will arrive more quickly and in bigger size to provision the market with plenty of liquidity.
In FX, the weak US data combined with a bounce-back in risk sentiment saw the USD weakness broadening out to more than it likely would have had risk sentiment remained on the defensive. The USD outlook is increasingly pivotal as break-down levels near in a number of key pairs. Already, USDJPY has crossed below the important 107.00 level, while EURUSD and other pairs have more heavy lifting to do to suggest a more profound turn in the greenback’s fortunes.
Some may suppose, as we have seen in the past, that there is some “Goldilocks” level of weakness in the data – sufficiently weak data to point to rapidly rising Fed efforts to bring further easing, but data not so weak as to suggest a profound reassessment of risky asset valuation or blow out credit spreads. But I don’t buy into that argument and recent developments don’t look so promising on that front, as high yield credit spreads have widened aggressively this week – the Barclays index I track has risen to 420 bps wide of treasuries, from lows below 360 bps last month. The highs over the last several months are just below 450 bps, while the high during the late 2018 episode of market volatility and the Fed’s policy mistake was north of 500 bps.
All told, today’s payrolls release comes amidst an interesting set-up for both market technical and in terms of the market narrative. Most surprising would be a positive print, while to really surprise to the downside, we may need to see a print south of +50k together with chunky negative revisions to the prior two months’ data.
Chart: USDJPY weekly
USDJPY has broken down through the 107.00 area, exposing the range lows into 105.00 and below, an important area going back several months. Risk off and weaker global yields in the wake of negative US data are traditionally negative for the pair, and usually the bond market weighs more heavily than risk sentiment in the equation – note for example, yesterday’s bond rally has stuck despite the equity market rebound, just as USDJPY has remained relatively heavy.
The G-10 rundown
USD – again, the reaction function to weak US data not entirely clear, but would be more so if we get particularly bad US data with weak risk sentiment, which likely drives more USDJPY downside, potentially EURUSD upside, while less supportive for risky currencies versus the greenback.
EUR – The modest recovery in EURUSD becomes more challenging for bears if 1.1000 is taken into the end of this week (would create a solid bullish weekly candlestick reversal pattern), but a more profound local reversal requires 1.1075+
JPY – the yen in a good position to continue strengthening here if US data is bad and the risk sentiment also weakens.
GBP – the EU is not satisfied with Boris Johnson’s plans thus far and will make a decision in a week on whether there is anything to salvage from ongoing negotiations. If no deal is achieved, a UK constitutional crisis is set in motion as Johnson tries to take the UK out without a deal, while the parliament will do what it can to make good on the law it passed to prevent Brexit without a withdrawal agreement. Sterling downside risks unless Johnson pulls a rabbit out of his hat on deal.
CHF – one of the more interesting developments over the last couple of sessions has been the ability of EURCHF to rally despite the Brexit uncertainty and stronger JPY/lower yields. Upside EURCHF optionality worth owning in case this is an early sign that the market sees absolute zero having been more or less reached in EU yields.
AUD – interesting to see the reversal of AUDUSD sell-off post-this week’s RBA cut, and a close north of 0.6750 creates a bullish weekly candlestick reversal. Still, the pair requires heavy lifting to reverse the well established bear trend, and global growth concerns are not an environment in which the AUD can be expected to thrive.
CAD – CAD not behaving like its commodity dollar peers as US weakness deals a fresh blow to the Bank of Canada outlook, which was otherwise complacent recently. The technical recovery above 1.3300 sets the focus higher in USDCAD and risk of further underperformance in the crosses.
NZD – scoping out levels for re-entry in long AUDNZD positions – real value doesn’t show up until 1.0600 or even a bit lower unless we see isolated negative NZ developments.
SEK and NOK – the Scandies twisting in the breeze on concerns for the global growth outlook – we need a bolt from the blue on fiscal stimulus or a sense that the EU is turning the corner to avoid new lows for the cycle for both currencies.
Upcoming Economic Calendar Highlights (all times GMT)
- 1230 – Canada Aug. Intl. Merchandise Trade
- 1230 – US Fed’s Rosengren (Voter) to Speak
- 1230 – US Sep. Change in Nonfarm/Private Payrolls
- 1230 – US Sep. Unemployment Rate
- 1230 – US Sep. Average Hourly Earnings
- 1230 – US Aug. Trade Balance
- 1400 – Canada Sep. Ivey PMI
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