FX Update: USA in the coronavirus crosshairs

Trading interest

• Long (Expiry Nov 6 – days after election) 1.1200 EURUSD calls.
• Short EURJPY with stop above 120.50 for 117.00 or lower
• Short AUDUSD above 0.6630 with stop above 0.6710, looking to revisit cycle lows

The market tried to find renewed hope yesterday, some would argue on a second-guessing of the buy-the-rumor and sell-the-fact of the Fed’s emergency cut, with others chiming in that the true source of the bounce was Biden’s head-spinning comeback in the US Democratic primaries, which are seeing the odds of a Bernie Sanders win fading to almost nil. The key date on that front appears to be .

I don’t like to wade into the political debate on the coronavirus response, but US President Trump’s response and rhetoric around the coronavirus outbreak are strongly tilting the odds against him in November if the outbreak spreads as badly as I fear it is about to. As recently as overnight he pooh-poohed the symptoms of the virus and suggested that the US cannot afford to indulge in the scale of shutdowns other countries are. Elswhere I have seen anecdotal reports of obvious candidates for Covid19 testing not able to -or not “allowed” to - get a test, suggesting that the disease is spreading largely unchecked in the US. With test kit production set to rise sharply in the days and weeks ahead and new rules from the US CDC allowing more widespread testing, we can expect the number of cases in the US to explode in the coming few weeks and the risk for widespread economic disruption to grow, both from officially motivated- and self-quarantining behavior.  That disruption was certainly nowhere in evidence in February’s US ISM Non-manufacturing survey, which at 57.3 was very much at odds with the Markit Services PMI Survey for the same month (final print for the month unchanged at 49.4). The March numbers likely to be in a very different place.

The Bank of Canada cut rates by 50 basis points – nominally a surprise, though the odds were already tilting more in favour of 50 than 25 going into the meeting yesterday. The market reaction has so far been rather restrained as risk appetite bounced strongly yesterday and oil markets are holding their breath ahead of OPEC and OPEC+ (with Russia) meetings today and tomorrow, respectxively. A further risk deleveraging and downside in the oil price from coronavirus fears could lead to an extension higher in USDCAD.

The market is pricing high odds that the Fed chops another 50 basis points at the March 18 FOMC meeting, an almost guaranteed action if the Covid19 case count starts to take on the expected exponential rise in the US as testing regimes spread. Before we take solace in what that means for stimulating the economy, let’s recall that the last time the Fed was chopping rates this frantically was in early 2001 and early 2008 – well before the worst portions of the market deleveraging that eventually took place. It takes time for the Fed to get ahead of the curve and for the stimulus to work through the system – on the order of 12-18 months.

Chart: EURJPY
EURJPY has been a choppy mess over this episode of market turmoil, and we suspect the euro side of the equation here has been held aloft by unwinding of very large speculative- and carry trade funding shorts. But for the longer term, we are concerned about the outlook for Europe, in particular on the immigration issue which is becoming more pressing at the border with Turkey at the moment, but as well as difficulty in coordinating the scale of fiscal response needed to deal with the coronavirus fallout and the risk that Italy continues to represent as it dips into an ugly recession here. EURJPY is a mess here, but would look for a weak close below perhaps solidly below 119.00 to signal that the market is beginning to fret euro downside risks beyond the positioning adjustment.