Sterling stumbles as implied vol surges; EU Summit, Johnson’s deadline loom

14th October 2020 – Macro Daily

Market Update

Risk tone remains cautious early in the European trading session; the Stoxx 600 trades with minor gains of around 0.2%, while S&P 500 futures are up around 0.4%. Crude oil has had a slight negative bias, US yields are flat/slightly lower and USD remains supported at highs for the week.

Rising Covid-19 cases in Europe remain at the forefront of investor concerns (Netherlands announced new restrictions and the UK govt is mulling a national lockdown should the recently announced three-tiered system fail). Meanwhile, Eli Lily announced that it had halted its Covid-19 antibody treatment trail due to safety concerns, just a day after J&J halted its vaccine trail – trader note that a large number of similar studies continue, however, so the sense that a vaccine is on the way sooner or later remains. Meanwhile, market’s seem to have come round to the idea that pre-election US fiscal stimulus is unlikely, amid continued gridlock in negotiations between the White House, Republicans and Democrats; the Senate Republicans will vote on a “stripped down” $500bln package next week, but the Democrats, who control the House, have indicated they will oppose this package.

USD strength this morning is mostly being driven by downside in GBP, as rhetoric from the EU hardens somewhat; the message from the EU in Brexit negotiations this week has very much been “we want a deal, but not at any cost”, a variant on former UK PM May’s “no deal is better than a bad deal” from back in the day. This morning, a draft document seen by newswires suggests that, at its Leaders Summit from Thursday to Friday, the EU will say that progress in talks with the UK on the future relationship are not sufficient, thus, no deal preparations must intensify. However, negotiators will be directed to intensify efforts to reach a deal.

Note that UK PM Johnson has threatened that if a deal remains out of sight by this Thursday (the 15th of October), the UK will walk away from talks with the EU and focus on preparing for a no deal end to the transition period. Implied overnight volatility surged this morning to a 7-month high of above 13%; perhaps markets are increasingly fearing that Johnson might make good on these threats to walk away from talks (although the UK has previously said that the door will “never be closed” to the EU).

NOK is being hit hard and EUR is marginally softer, but all other G10 currencies are flat vs USD, more below…

G10 FX

 Fundamental ObservationsTechnical Observations
USDSupported this morning mostly by downside i GBP. PPI (Sep) and FOMC’s Clarida, Barkin, Quarles and Kaplan ahead.  DXY saw some upside on GBP weakness this morning, gains but remains capped by the 21dma at 93.64. To the downside, last Tuesday’s low is at 93.33 and the 50dma at 93.26.
EURFlat on the day vs USD. Final Spanish September CPI was in line and Germany is reportedly planning to extend aid for companies by six months to June 2021. Eurozone IP (Aug) and ECB’s Lagarde, Lane, Merch, de Galhau, de Cos and Holzmann ahead.EURUSD has recovered from a minor slip after the EU open, and remains supported ahead of yesterday’s lows around 1.1730. A 1.2bln expiry at 1.1750 and the 21dma at 1.1752 might provide resistance.
GBPHas slumped since the EU open, now down roughly 0.35% vs USD and EUR. Brexit concerns are weighing, given increased talk of upping no deal preparations heading into the EU leader summit tomorrow. Increased “circuit-breaker” lockdown talk if current restrictions fail also weighing. Johnson, von der Leyen and Michen call, as well as BoE’s Haldane ahead. GBPUSD has slumped below its 21dma at 1.2890, but is yet to test last Wednesday’s 1.2850 lows. Further resistance in the form of the 200dma sits at 1.2818. Meanwhile, EURGBP is finding resistance at its 21dma at 0.9115 for now.
JPYJapanese industrial production numbers in August were a little underwhelming; production grew at 1.0% M/M, below expectations for a rise of 1.7% and a big drop from last month’s 8.7%.USDJPY fell to lows of just above 105.30 overnight, but the cross has since recovered back to the 105.40s, with the 21dma at 105.35 providing some support. Below that, 1.2bln in expiries between 105.15-20 might also provide support.
AUDA little higher on the day vs USD amid the minor pick up stocks. Traders look ahead to tonight’s speech from RBA Governor Lowe and then the latest Aussie jobs numbers for September.Gains remain capped below the 21dma at 0.7175, as well as 550mln in expiries between 0.7175-80, though the cross has managed to mostly stay above 0.7160.
NZDA little higher on the day vs USDamid the minor pick up stocks. Comments from RBNZ Assistant Governor Hawkesby were seen as broadly neutral overnight; he noted how some data has surprised to the upside, but that the economy continues to need policy support. Moreover, he said a lower exchange rate could provide further stimulus.NZDUSD remains supported above 0.6650 for the time being. Below that, the 21 and 50dmas align nicely at 0.6634, just above Tuesday’s lows around 0.6630.
CADFlat vs USD, loonie traders are looking ahead to today’s speech by BoC Deputy Governor Tim Lane.  USDCAD is flatlining at the upper end of its 1.3100-1.3150 range for the week so far.
CHFA tad firmer vs USD on the day.USDCHF rose back above its 50dma at 0.9130 yesterday. The cross has since been rangebound between 0.9140-50. To the upside, the 21dma sits at 0.9168.
NOKBack to flat on the day vs USD, having erased substantial post-EU open losses. Minor recovery in stocks is likely helping. EURNOK has been edging higher in recent trade, but remains below 10.8800. The 21dma sits just above 10.90 to the upside.
SEKA little higher on the day vs USDamid the minor pick up stocks. Swedish money market inflation expectations remained broadly unchanged, aside from a rise in the 5 year to 1.8% from 1.5%.EURSEK gains remain capped by Monday lows around 10.3750 and the cross’s 50dma just above 10.3800.

The Day Ahead

0900BST/0400EDT, ECB President Lagarde speaks at the online 16th biennial Global Roundtable organised by the United Nations Environment Programme Finance Initiative (UNEP FI).

1000BST/0500EDT, Eurozone Industrial Production (Aug)… Eurozone industrial output recovered at a rapid pace in back May and June, i.e. the initial rebound from March and April’s lockdown induced hit. The pace of recovery has since slowed, however, and this slowing pace is expected to continue into August; Eurozone IP is expected to rise at a M/M rate of just 0.8% in August, bring the Y/Y rate of growth a little higher to -7.2%. Notably, manufacturing sentiment in August and September continued to improve despite a surge in Covid-19 cases in the Eurozone that put pressure on the equivalent service and composite sentiment indices. SEB note that country-level data published last week gave a mixed picture; “despite a strong PMI-number and also order data, German production fell in August. Italy on the other hand surprised strongly on the upside with a 7.7% M/M rise and industrial production in now only marginally lower than a year ago. France, Spain and the UK presented weaker readings highlighting the fragility of the recovery.” The bank suggests going forward that “our overall assessment is that production will rise in the euro area as a whole but that growth rates will be more modest as the crisis related drop is getting smaller. The development of the pandemic and new measures to contain contagion will make monthly numbers even more volatile than we are used to.”

1300BST/0800EDT, ECB Chief Economist Lane speaks… Recent comments have been dovish in terms of their policy implications; in an interview with the WSJ over the weekend, he signalled that the ECB would allow inflation to overshoot and said that the ECB would be as aggressive as the Fed in pursuing the inflation target. Moreover, “I do not see that the ECB has a structurally tighter orientation for monetary policy” than the Federal Reserve, he said. Comparisons with the Fed and its AIT policy seemed to trigger some push back from other ECB members; ECB “sources”, speaking to Reuters, noted reluctance amongst ECB policymakers to follow the Fed’s move to target an average inflation rate, fearing this could tie their hands. The Reuters article noted that; policymakers… feared that going down this route risked encouraging financial markets to jump to the wrong conclusions about future policy decisions based simply on where the average happened to be at a given point in time. Instead, they wanted to retain the flexibility to judge each situation on its own merits, for instance by playing down the significance of temporary changes in inflation due to swings in the price of oil.

1300BST/0800EDT, ECB’s Mersch participates in a webinar hosted by the Institute of International and European Affairs (IIEA).

1300BST/0800EDT, International Monetary Fund officials conduct press briefings and news conferences.

1315BST/0815EDT, ECB’s Villeroy de Galhau, Hernandez de Cos and Holzmann speak at a conference.

1330BST/0830EDT, US Producer Price Inflation (Sep)… The headline number is seen rising at a M/M and Y/Y rate of 0.2% in September, while Core PPI is also seen rising at a M/M rate of 0.2%, while the Y/Y rate is seen jumping to 0.9% from last month’s 0.6%.

1335BST/0835EDT, FOMC’s Barkin speaks before virtual West Virginia Economic Outlook Conference.

1400BST/0900EDT, FOMC Vice Chair Clarida speaks at annual IIF Annual Meeting… In his most recent comments (made on the 23rd of September), the Vice Chair of the FOMC stuck to the Fed’s new AIT policy script; i.e. the Fed is not even going to think about raising rates until actual inflation is at 2% and the US needs to spend “some time” with inflation above 2% to offset time spent below it. Moreover, he cautioned that additional fiscal stimulus would likely be needed to aid the economic recovery, as have so many other FOMC officials as of late. Given continued impasse in fiscal stimulus negotiations, calls for more government aid might be a little louder today, but otherwise I see no reason why Clarida wouldn’t continue to stick to the usual script.

1400BST/0900EDT, Bank of England Chief Economist Haldane speaks… In his last batch of comments (on the 30th of September), the BoE’s Chief Economist noted how risks to the UK economy remain tilted to the downside, but urged that the faster than expected economic recovery from April lows had not been given enough credit. By the end of Q3, output is expected to be only around 3-4% below its pre-Covid-19 level, he said. Moreover, Haldane again pushed back on negative rates, saying that “none of the conditions for negative rates have been satisfied”.

1530BST/1030EDT, FOMC’S Quarles participates in “Financial Stability” panel before Systemic Risk Council Webinar

1530BST/1030EDT, Bank of Canada Deputy Governor Tim Lane participates via videoconference in a panel discussion at a joint Reinventing Bretton Woods Committee-Chamber of Digital Commerce webinar.

1900BST/1400EDT, Fed’s Beige Book

2000BST/1500EDT, FOMC Members Kaplan and Quarles participate in “Financial Regulation” panel before Hoover Institute Monetary Policy Virtual Series

2130BST/1630EDT, API Weekly Crude Oil Stocks

2245BST/1745EDT, RBA Governor Lowe gives an online speech… The last time we heard from RBA Governor Lowe was back in August. Since then, the RBA has adopted a more dovish stance, signalling that it is looking at further monetary policy easing options (including further cuts, perhaps even into negative territory, QE expansion and even FX intervention, although there are doubts about the latter’s potential effectiveness). Moreover, the RBA signalled that it is content with current financial market expectations that further policy easing is ahead. Many analysts now expect a 15bps cut to interest rates (taking them to 0.1%) in November. Market’s thus look to Lowe for confirmation of their dovish positioning.

2300BST/1800EDT, FOMC Member Kaplan participates in a virtual town hall discussion on the economy and monetary policy hosted by the Federal Reserve Bank of Dallas.

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