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Five reasons why the fear trade is back

Posted on: 11 February 2019 , by: Boris & Kathy , category: Market Review

FX Weekly with Boris and Kathy

The fear trade is back. All of the major currencies fell sharply last week as investors flocked into the safety of the US dollar. Big deadlines are looming in February and investors are worried that they will result in more uneasiness than relief.

Prime Minister May needs to deliver significant progress on Brexit negotiations to Parliament on 13th of February, or the government will present a motion that would allow MPs a greater control of the Brexit process. Funding for the US government runs out on the 15th of February, and a new funding bill needs to be passed by to avoid another shutdown. The US Commerce Department is also set to publish a report on the car industry by the 17th of February that will make a recommendation on European car tariffs. The US and China have until the beginning of next month to reach a trade agreement but based on President Trump’s comment that he will not be meeting with President Xi before the deadline the talks are not going well. Global growth is also a problem with central banks around the world echoing the same concerns about downside risks so in light all of this, it's hard for investors not to be concerned. The Australian and New Zealand dollars were hit the hardest by risk aversion. The fact that the Japanese Yen and Swiss Franc were the most resilient reinforces the risk-off sentiment. In a nutshell, here are the five reasons why the fear trade is back:

Five reasons why the fear trade is back

  1. Theresa May makes little progress on Brexit talks
  2. President Trump forgoes meeting with President Xi ahead of 2nd of March trade deadline
  3. US government funding runs out on the 15th of February 
  4. Report on car tariffs due by 17th
  5. Central banks worried about downside risks

5 Day Return vs USD January 28- February 1, 2019

 

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US DOLLAR

Data Review

  • Factory orders -0.6% vs. 0.3% Expected
  • Durable Goods Orders 0.7% vs. 1.5% Expected
  • ISM Non-Manufacturing Index 56.7 vs. 57.1 Expected
  • Trade Balance -$49.3B vs. -$54B Expected

Data Preview

  • Consumer Price Index – Potential upside surprise given recovery in oil prices and improvement in import/export prices
  • Producer Price Index - Potential upside surprise given recovery in oil prices and improvement in import/export prices
  • Retail Sales – Potential upside surprise given stronger year end spending and December wage growth

Key Levels

  • Support 108.00
  • Resistance 110.00

Dollar – strong February start

The US dollar is off to a strong start this month, but investors are not buying the currency because of a promising outlook for the economy. The latest economic reports show factory orders, durable goods and service sector activity slowing. Fed fund futures are now pricing in no rate hikes this year with a 24% chance of a rate cut. Stocks turned south after rising throughout January and is poised for further losses if President Trump continues with his confrontational rhetoric and bluster. In his State of the Union Address last week, President Trump offered his usual litany of dystopian woes as he focused on the problem of illegal immigration on the southern border and used highly charged rhetoric to blame that population for criminal acts. He built exactly zero goodwill across the aisle suggesting that his relationship with Democrats will only grow more confrontational introducing an element of political risk into the US economy. More importantly, he offered no evidence of progress in trade talks with China and continued to ratchet rather than lower his rhetoric on the matter. USDJPY which had broken above 110 briefly quickly turned south and remained lower after the speech which left a very bad aftertaste in investors mouths. He then went on to say that he would not meet with President Xi this month putting the next round of tariffs into question.

But there’s still hope. Treasury Secretary Steven Mnuchin and Trade Negotiator Robert Lighthizer are headed to Beijing this week for another round of talks, and CNBC reported on Friday that the March deadline of 12:01am or 0501 GMT on March 2 could move “via telephone.” If it's not, the US will proceed with increasing tariffs to 25% from 10% on $200B worth of Chinese imports. The US economy will also be in focus this week with CPI, retail sales, the Empire State manufacturing index and University of Michigan consumer sentiment report scheduled for release. If these reports surprise to the downside, stocks will sell-off further, and USDJPY could drop below 109. If they surprise to the upside and show stabilisation, which is feasible given the recovery in oil prices last month and end of year holiday shopping, it will give investors even more reasons to buy US dollars.


EURO

Data Review

  • German factory orders -1.6% vs. 0.3% Expected
  • German industrial production -0.4% vs. 0.8% Expected
  • German trade balance 13.9B vs. 16.5B Expected
  • German current account balance 21B vs. 23.3B Expected
  • EZ Services PMI Revision 51.2 vs. 50.8 Expected
  • EZ Composite PMI Revision 51 vs. 50.7 Expected
  • EZ PPU -0.8% vs. -0.5% Expected

Data Preview

  • German Q4 GDP – Potential for downside surprise given sharp decline in retail sales
  • EZ Industrial Production – Potential downside surprise given decline in German IP
  • EZ Q4 GDP–

     

    Potential for downside surprise given sharp decline in German and French retail sales
  • EZ Trade Balance – Potential for downside surprise given weaker German trade balance

Key Levels

  • Support 1.1300
  • Resistance 1.1500

Euro beaten down by data

Persistently soft Eurozone data prevented EURUSD from rallying at all last week. The single currency quietly slipped as weaker German factory orders were followed by a decline in industrial production and a narrower trade balance. The slow speed of the sell-off shows just how much support there is underneath 1.13. The fundamentals are clearly skewed against the euro and with the US dollar rising and stocks falling on risk aversion, the pair should be trading comfortably below 1.13. It hasn’t done so yet, but we think its only a matter of time before new year to date lows are seen. Fourth quarter GDP numbers are due for release next week and given the central bank’s concerns and the contraction in German retail sales, the risk is to the downside for the report. Tariffs on European car imports will become a hot topic in the next few weeks as the US Commerce Department assesses whether car imports are a threat to US national security - President Trump has 90 days to respond.


BRITISH POUND

    Data Review

    • Bank of England leaves interest rates unchanged, downgrades GDP forecast
    • UK PMI Construction 50.6 vs. 52.5 Expected
    • UK PMI Services 50.1 vs. 51 Expected
    • UK PMI Composite 50.3 vs. 51.4 Expected
    • Halifax House Prices -2.9% vs. -0.7% Expected

    Data Preview

    • Q4 GDP – Potential downside surprise after BoE downgraded GDP forecasts. Trade balance also weakened
    • UK CPI – Potential upside surprise as BoE talked about lower inflationary pressures. Shop prices also fell further
    • UK Retail Sales – Although shop prices continued to fall and BRC reported little sales growth, there could be a recovery after last month’s sharp fall

    Key Levels

    • Support 1.2800
    • Resistance 1.3100

    GBP in Brexit limbo

    Sterling is still in Brexit limbo and while Bank of England Governor Carney said the fog of Brexit is creating tensions and the economy is not ready for a no deal exit, they are banking on an agreement being reached. Unfortunately, very little progress has been made over the past week. Theresa May’s request for a time limit on the Irish backstop was swiftly rejected by the EU. They are playing hardball as Juncker, Tusk and Barnier take every opportunity to say that they are not open to renegotiation. May’s only hope is to get Jeremy Corbyn on her side. He laid out 5 demands that include a “permanent and comprehensive UK-wide customs union" aligned with the EU's customs rules but with an agreement "that includes a UK say on future EU trade deals", close alignment with the single market, protections of UK standards so they keep pace with the EU, cooperation of EU agencies and funding programs and security cooperation. European Council President Tusk said the letter is a “promising way’ out. But it's not clear if she will choose this path as there’s significant opposition to Corbyn’s request at the very top of the Labor party. With less than 50 days before the March 29 deadline, the EU is clearly trying to run down the clock in the hopes of pressuring the UK to accept the withdrawal agreement as is. May could be doing the same in the hopes that MPs will cave. Either way, we can expect more Brexit uncertainty in the coming week.

    According to the Bank of England, the UK is set for its worst year since the financial crisis. They slashed their 2019 GDP forecast to 1.2% from a previous estimate of 1.7% and added that falling oil prices will temporarily drive inflation below 2%. They are worried about weaker global growth and Brexit and while Carney said the economy could pick up if there’s clarity on the deal soon, he also said the economy is not prepared for a no deal Brexit. Despite these dour forecasts, Carney’s optimism for an agreement was enough to stem the slide in sterling. Unfortunately, we are less positive, and data has been weak. Services and construction activity slowed significantly in January, and we expect this week’s Q4 GDP, inflation and retail sales reports to disappoint as well.


    AUD, NZD, CAD

    Data Review

    Australia

    • RBA leaves interest rates unchanged, talks about increased downside risks
    • PMI Services 44.3 vs. 52.1 Previous
    • Trade Balance A$3681 vs. A$2225 Expected
    • Retail Sales -0.4% vs. 0% Expected
    • Retail Sales ex Inflation Q4 0.1% vs. 0.5% Expected
    • NAB Business Confidence 1 vs. 3 Previous

    New Zealand

    • Unemployment Rate 4.3% vs. 4.1% Expected
    • Employment Change 0.1% vs. 0.3% Expected

    Canada

    • IVEY PMI 54.7 VS. 59.7 Previous
    • Building Permits 6% vs. -1% Expected
    • Housing Starts 208K vs. 205K Expected
    • Net Change in Employment 66.8K vs. 5K Expected
    • Unemployment Rate 5.8% vs. 5.7% Expected

    Data Preview

    Australia

    • Chinese trade balance – Chinese data is difficult to predict but should be weaker given tariffs and softer growth

    New Zealand

    • RBNZ Rate Decision – No changes expected but dovish tilt likely
    • Business PMI Index – Potential downside surprise as recent deterioration in data weighs on sentiment

    Canada

    • Trade balance – Potential downside surprise given sharp drop in IVEY PMI

    Key Levels

    • Support AUD .7000 NZD .6700 CAD 1.3100
    • Resistance AUD .7200 NZD .6800 CAD 1.3400

    Major losses for AUD and NZD

    Last Wednesday, the Australian and New Zealand dollars experienced their largest one-day slide in more than a year. After a relatively benign monetary policy statement, Reserve Bank of Australia Governor Lowe surprised investors by saying the interest rate outlook is now more evenly balanced. He cited global risks and domestic housing market consumption as reasons for why the central bank needs to have the budget to respond to any downturn. The central bank also cut their growth and inflation forecast. Their main concern domestically is how the property market will impact consumption. These changes effectively rules out a 2019 rate hike and leaves the RBA with a slightly dovish tilt. The central bank’s cautious outlook was reinforced further by weaker retail sales, service and construction sector activity. Technically, AUDUSD has broken below the 20-, 50- and 100-day simple moving averages and the next stop should be a move below 70 cents.

    The Reserve Bank of New Zealand meets this week, and they won’t have anything positive to say about the economy. Labour market conditions deteriorated significantly in the fourth quarter with the unemployment rate ticking back up to 4.3% from 3.9%. Job growth was less than expected, and the participation rate declined in Q4 as average hourly earnings growth slowed to 1% from 1.4%. Although dairy prices rebounded the softness in consumer spending, inflation and housing market activity will keep the RBNZ on hold for the foreseeable future.

    AU Economy- Changes since last RBA meeting

    The Canadian labour market, on the other hand, is on fire. Economists were only looking for an addition of 5K jobs, but instead more than 65K jobs were created in January which puts the 5-month average just under 50K jobs per month. Private sector hiring was exceptionally strong which will soften the blow of weaker global growth. This report also reinforces the Bank of Canada’s view that the economy is on solid footing, but as Governor Poloz said, there’s nowhere to hide from Brexit or trade fights, so there’s no reason to raise rates. USDCAD which pulled back after rallying in the front of the week will take its cue from oil in the week ahead.


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