By John J Hardy*
THE strong run-up in interest rates eased markedly just after their latest surge around the Dec. 14 Federal Open Market Committee meeting. So with perfect hindsight, it appears that bond markets saw a sell the rumor, buy the fact pattern around that meeting, with a large subsequent consolidation that has coincided with a pause in the USD rally.
With liquidity returning to the market in the New Year, the end-of-quarter, end-of-year mentality out the window and no change in the fundamental setup, it would seem time for the USD bulls to rumble once again, provided the US data this week doesn’t provide any pitfalls. For EURUSD, despite the spiky run-up to well over 1.0600 last week, the resistance tactically looks like 1.0500 and USDJPY never suffered as much of a dip and already looks ready for a fresh surge to start this year after rebounding smartly back above the 107.00 level Tuesday.
If we return to the regime of higher interest rates and higher equity prices we’re likely to see a resurgent USD, with fresh highs in the dollar index driven mostly by USDJPY and EURUSD, and fairly resilient to even strong smaller currencies and emerging market currencies, provided commodities continue to support the “reflation theme”.
The odd squeeze in EURUSD over the holiday period was likely driven by poor liquidity combined perhaps with end-of-month/quarter/year rebalancing (which should never be done during this period, really). In any case, with markets off to a positive start for the year, we should revert back to the 1.0500 resistance focus for EURUSD and watch for new lows for the cycle if the US data comes in strong through the end of this week.
Note the CPI data from Germany later today and the Eurozone tomorrow could fan the flames on the downside on a miss, or provide a brief distraction on upside surprises (provided those are relatively modest). Parity will quickly become the focus if we manage a close south of the lows for the cycle.
The G-10 rundown
USD – the greenback should be at or near the top of the heap if the reflation / hurray for coming Trumpnomics (a.k.a. Reaganomics version 2.0) trade reignites here to start the year – mostly focused against the euro and yen.
EUR – we’re not sure what last week’s trainwreck was all about in EURUSD, but if yields pick-up again here to start the year and optimism remains high, the euro should should continue to weaken broadly on the ECB’s ongoing QE.
JPY – during this strong USD and rising bond yields cycle, the yen has shown the highest beta to yields, so a fresh bounce in yields over the US data this week could do wonders for USDJPY bulls and see the pair challenging 120.00+ in short order.
GBP – the EURGBP chart looks set for a fresh downside continuation at some point in technical terms (though further room for a squeeze to a higher starting point), but Brexit worries are perhaps holding back the pound. Would expect some directional sympathy with EURUSD for EURGBP if markets are generally in optimistic mood.
CHF – EURCHF trying to lift itself off the lows. We would have expected more CHF weakness on the rise in interest rates in recent weeks, but two factors supporting CHF: The European Central Bank’s ongoing large-scale money printing and fear at the margin on EU political instability this year.
AUD – AUDUSD indecisive in the range after shying away from local lows yesterday and overnight, while AUDJPY looks resurgent after a large consolidation - a likely correlation with sovereign bond yields there.
CAD – USDCAD found support just below 1.3400 after an orderly retreat from the top of the range. We like CAD more than other commodity dollars, but look for USDCAD to carve out a new top if the USD is generally firm.
NZD – New local lows in AUDNZD Tuesday have so far been gently rejected, while NZDUSD has pushed back toward the 0.6950/0.7000 key pivot zone. We prefer NZD downside for balance of the year, but short-term momentum not there and this theme needs a spark not likely to be found in present environment.
SEK – Is the krona reaching its near term maximum potential after the late December revelations (government pushback against Riksbank excesses and the risks to financial stability)? 9.50 and slightly below could prove a sticking area for the selloff, as a significant break would have larger implications for the pair and signify a secular top.
NOK – so far, the 9.10+ resistance area in EURNOK is proving a tough nut to crack. If risk appetite and oil markets remain supported, that pair could remain range-bound for now.
*Head of FX Strategy at Saxo Bank
