US election: Why I like short USDJPY and long USDCNH

Here’s why I like a long USDCNH position and a short USDJPY position as we approach the November election.

America chooses

Voters are expressing they trust Biden more on the pandemic front, but trust Trump more with the economy. As both have hotly become election issues, and are intertwined at this point, this will be another tight presidential race.

Source: Bloomberg, Realclear

Trump’s approval ratings remain in the low 40s, below many of his predecessors that were elected for a second term. Yet some have won a second term despite similarly low approval ratings. According to Realclear (above), Trump’s approval rating is currently 42.4%. At this point ahead of the 2012 election, Obama’s approval rating wasn’t much higher at 47.7% (according to Fivethirtyeight).

USDCNH higher on uncertain China policy

China policy will be a hot election issue, with the US-China relationship the worst it’s ever been. The Trump administration has blamed China for the pandemic, threatening tariffs and even reparations. More recently, the US has taken the view that Hong Kong’s autonomy is gone as Beijing tightens its grip over the city. This sentiment has ramifications: it could undo the long-standing free trade deal between the US and Hong Kong.

It’s not just bad news for China - it’s also bad news for the 1300 or so US companies that do business in the financial hub.

When America chooses in November, they will have the choice of an easier ticket for China under Biden. Although Biden has become increasingly vocal about IP theft and WTO rule violations, he’d likely prefer a global alliance to manage China and is less likely to use tariffs as punishment. This would pave an easier path to a trade deal, which would be broadly risk positive and especially Chinese yuan (CNH) positive (USDCNH down).

But until the election, I like a long USDCNH view as Trump takes a harder stance against the world’s second biggest economy and markets start to hedge against uncertain China-policy.

As the US-China fallout deepened recently over Hong Kong policy, the CNH was sold down to a 12-year low of 7.19610 USD. The fresh low took USDCNH only a touch above the 2019 highs, forming 7.1960 as a resistance level.

I won’t be surprised to see this rip even higher in the near-term, and will await a break above resistance on a daily closing basis for confirmation. The souring US-China relations will be the primary driver here, but uncertainty around the USA’s China policy should see further CNH weakness ahead of the election.

And a weak yuan will leak into other markets. See the chart below, where currencies like AUD (green) and NZD (blue) have reflected broader moves in CNH (red).

USDJPY - The election hedge

USDJPY has a track record of sensitivity to US elections, typically strengthening on safe haven flows leading into the election and unwinding afterwards. I like short USDJPY ahead of this year’s election due to the risk-negative policy at play during trying economic times.

Below I’ve compared weekly USDJPY charts over the last four US elections. There’s certainly a trend of JPY strengthening on safe haven flows ahead of elections (USDJPY down) and in a couple of cases a very steep unwinding after the election as uncertainty clears (USDJPY up). Week of election is circled red on each chart.

For the 2004 and 2008 elections, the JPY strengthened in the three months ahead of the election.

Note the steep hike in USDJPY after the election in both 2012 and 2016 after a period of JPY strength. In 2016, markets were unsure about the prospect of a Trump administration, but the safe haven bids quickly unwound on his pro-business mantra.

Ahead of the 2020 election, it’s not only China-policy that’s risk negative. As Biden gains on Trump in the polls, there are fears that Biden would undo some of Trump’s business friendly policy. For one, he has hinted at a reversal of Trump’s “excessive” corporate tax cuts, perhaps hiking from 21% to 28%, rather than a complete reversal to 35%. But either way, the policy is risk-negative, especially with a long recovery ahead for business in the post-pandemic world. 

Other risk-negative Biden policies include the reversal of expanded oil drilling on federal land, a minimum wage hike at a federal level, and blowing out the deficit with infrastructure spending. Although an infrastructure boom could have wider benefits, and as necessary as a minimum wage hike is in the USA, markets will be risk-averse to policies which could slow the path to pre-pandemic economic activity and employment.

Biden’s selection of running mate this year will be crucial to excite voters about the democratic campaign, inspire people to vote, and sustain a meaningful lead over Trump in the polls. Betting markets have Kamala Harris as a clear favourite, trailed by Elizabeth Warren.

If markets think Biden could win this, the economic risk will be hedged accordingly. Whereas if they think Trump has a clear second term, they’ll be hedging the US-China risk. And history suggests the Japanese yen is the favourite vehicle to hedge election risk.