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: Big risk sentiment shift boosts smaller currencies
John J. Hardy
Chief Macro Strategist
Summary: The sterling comeback has steepened as the market discounts the risk of immediate Brexit chaos risk, even if the enthusiasm may eventually prove misplaced . Elsewhere, risk sentiment proxies have broken higher, taking down the USD and JPY and firing up a rally in the G10 smalls and EM currencies.
Trading interest
- Maintaining AUDNZD longs with stops below 1.0570 for 1.0950
Sterling continued its strong recovery into today as the immediate threat of a No Deal Brexit has been removed by the latest parliamentary maneuvers, as parliament will likely get its delay to avoid an October 31 No Deal (key question: what will the EU terms be for that delay?) and Boris Johnson’s attempt to call for snap elections in mid-October was defeated. There are still too many scenarios from here to signal the all clear – an election scenario that serves as a referendum on Brexit still presents the risk of an eventual No Deal. If sterling heads much higher here versus the US dollar, we will be tempted to look for ways to express a medium-term downside view through options.
The Bank of Canada yesterday entirely failed to deliver a dovish tilt in its latest statement, which, combined with the fact that USDCAD was trading in a pivotal area and the risk sentiment improvement also feeding a sharp comeback in oil prices, saw an exaggerated reaction in CAD crosses. The actual shift in Canadian short rates was negligible and this will likely go down eventually as a policy mistake from the Bank of Canada, where the recent strong Canadian GDP print was mostly a result of a large trade surplus, while other measures of the economy, like final demand, were the worst in years.
Sweden’s Riksbank today waxed far less dovish than expected, still insisting that it maintains course for an eventual rate hike, if the timing is a bit delayed to toward year-end or early next year. As with the reaction in CAD to the Bank of Canada, this prompted a sharp rally in SEK, though Swedish rates staged a more notable recovery than their Canadian counterparts. The stronger risk sentiment backdrop is a boost for SEK as well and EURSEK is now pushing down on the key 9.65-60 area that needs taking out to discuss a larger scale SEK comeback.
Watching the US ISM Non-manufacturing survey for August today and jobs and earnings reports tomorrow as the last major inputs for the FOMC meeting on September 18. If equity markets are bulling up near the highs for the cycle as they are currently and if the USD has eased off further, it is hard to see the Fed ratcheting the concern level higher in its outlook, especially given that the US and China have halted the trade war escalation and are on course for talks in October. So quite bad data misses today and/or tomorrow, and/or a move to fresh highs in the USD or sudden steep sell-off in risk would likely be a prerequisite for a large Fed rate chop.
Chart: AUDUSD
There is still a lot of work to do to turn the USD outlook from the upside to the downside, with AUDUSD a decent barometer of the status of the US dollar versus riskier currencies. While we are up against the resistance of the prior lows at 0.6832, we arguably need a full rejection of the prior sell-off wave from just above 0.7000 to provide any sense of an emphatic reversal. But for formality’s sake we note that the first Fibo retracement of note comes right in at the prior low and the 61.8% Fibo comes in about a figure higher at 0.6927.
The G-10 rundown
USD – still a lot of wood to chop to call this a reversal in the USD rally, but in EURUSD, the resistance needs to come in around 1.1050 to argue against reversal risk there. The bar for a reversal is higher elsewhere, especially in EM
EUR – the euro getting a bit of relief in the safe haven crosses like EURJPY on the Brexit relief and recovery in risk sentiment.
JPY – the yen getting the worst of it here on the shift in risk sentiment and long yields backing up.
GBP – sterling relief rally deepening and could manage a go into the 1.2400-1.2500 zone in GBPUSD and toward 0.8900 in EURGBP.
CHF – surprisingly little upside relief on the Brexit news and back up in yields
AUD – AUDUSD bears beginning to suffer above 0.6800, but full reversal needs at least close above 0.6925 and more likely 0.7000 to suggest the downtrend from early 2018 is finally at risk of turning.
CAD – would be surprised to see the momentum off the Bank of Canada statement yesterday continuing, as USDCAD was poised for a binary outcome around the 1.3300 pivot. But theoretically, range to 1.3000 now open again, especially if equities march to new highs for the cycle.
NZD – NZD fighting back, probably as a function of everything that was weakest recently now doing quite well. Still looking for underperformance versus AUD.
SEK – Riksbank maintains commitment to rate normalization, if with a delay. The risk backdrop helps, but needs to continue and we need to take out 10.65-60 in EURSEK to discuss a more profound chart turnaround.
NOK – EURNOK pushing down toward range support near 9.90 and needs to progress through 9.80 to argue for deepening reversal.
Upcoming Economic Calendar Highlights (all times GMT)
- 1215 – US Aug. ADP Employment Change
- 1230 – US Weekly Initial Jobless Claims
- 1345 – US Aug. Markit Final Services PMI
- 1400 – US Aug. ISM Non-manufacturing Survey
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