G10 FX Week Ahead: In search of lost correlations
- 6 February 2021
- FX
The inverse correlation of the dollar with equities has faded lately, which may leave any dollar weakness mostly dependent on further worsening in the US real rate story for now. So, US CPI will likely be the main highlight in the week ahead data-wise. The EUR and other low-yielders (JPY, CHF) may struggle to recover, while GBP could remain a key outperformer
USD: Real-rate story prevails over equities correlation
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| DXY | 91.0480 | Neutral | 90.5000 - 91.5000 | 91.0000 |
- Before the release of the January US jobs report today, the dollar was in positive territory on the week against all G10 currencies, despite global equities having staged a solid performance in the past few days. We suspect that the weakening of the USD-equities inverse correlation was partly due to some squaring of dollar positions: according to CFTC data, the USD aggregate net-short positioning vs G10 was at -18% of open interest as of 26 January.
- A mixed, but prevalently grim set of employment numbers today triggered a drop in the dollar across the board. In our view, the market reaction to bad data was channelled through rising expectations of aggressive fiscal stimulus by Biden, which in turn fuels higher inflation expectations, and abating speculation about earlier-than-forecasted tapering by the Fed. This leaves a key USD bearish argument – the unsupportive US real rate – intact. In this sense, the CPI numbers for January will be closely monitored next week to track any signs of recovery in prices. Any above-consensus read should, in our view, have a negative impact on US real rates and the dollar as the Fed’s flexible inflation targeting should keep the reaction in front-end rates muted. Our economists are broadly in line with consensus for a 0.4% month-on-month increase in headline CPI. Further advancements on the fiscal front will remain centre stage, and may keep investors on the optimistic side, but any impact on the dollar may come through the real-rate channel rather than from improving risk sentiment.
EUR: Desperately looking for consolidation
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| EUR/USD | 1.2035 | Neutral | 1.1960 - 1.2100 | 1.2000 |
- Before grim US jobs data came to the rescue, EUR/USD was trading below 1.20 for the first time in more than two months, and while it was a generalized dollar momentum that kept putting pressure on the pair of late, the relatively slow vaccination process in the eurozone may have started to take a toll on EUR sentiment. As highlighted in the USD section above, position-squaring dynamics may have played a role as well (EUR is materially overbought), also considering that other fundamentals did not point at EUR/USD weakness: the rise in US rates was matched by that in the bunds this week and US equities have only marginally outperformed European indices.
- Improvements on EZ vaccinations could be the key for EUR/USD to find some consolidation back above the 1.2000 mark, but that is unlikely to change rapidly. If anything, EUR/USD bulls will be hoping for two factors to offer some mild support: good December industrial production data and the confirmation that Mario Draghi secured a parliament majority in Italy. Some ECB speakers (including President Lagarde) look unlikely to deliver any surprising message and EUR/USD may remain predominantly driven by the dollar side.
JPY: Still trapped
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| USD/JPY | 105.43 | Mildly Bullish | 103.00 - 106.30 | 103.00 |
- The yen’s inability to cash in on choppy risk sentiment shown last week has still left it rather vulnerable to equity rallies in the past few days. With virtually all currencies benefiting from the USD drop after today’s non-farm payrolls data in the US, USD/JPY remained supported, as UST yields kept inching higher and markets saw in increased likeliness of US aggressive fiscal stimulus.
- Looking ahead, the yen may remain an underperformer in G10, especially if the approval process on Biden’s fiscal relief bill progresses further and US inflation keeps recovering, all of which could keep UST 10Y supported. On the domestic side, the story might be a bit more supportive for the yen as the lockdown in some key areas of the country (including Tokyo) appears to be yielding good results as cases keep dropping. In the current environment, a decisive move below 105.00 in USD/JPY does not appear very likely.
GBP: The outlook remains bright
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| GBP/USD | 1.3723 | Mildly Bullish | 1.3600 - 1.3850 | 1.3600 |
- GBP has been the best performing G10 currency this week, helped by the BoE meeting that have further reduced the odds of negative rates. They are unlikely to happen over the next 6 months due to operational risks, while the need to go negative after the 6-month period will be rather low as we expect a strong 2Q economic recovery. Coupled with the fast vaccination, GBP is set to benefit and GBP/USD to grind slowly higher next week. As per GBP: Reaping the vaccine dividend, we have turned even more bullish on GBP and expect GBP/USD to move towards 1.50 this year
- On the domestic data front, the focus will be on the 4Q20 GDP (Fri) with the QoQ likely registering a marginally positive growth. Although this should be reversed in 1Q21 given the scale of the lockdown, all eyes are on the 2Q21 GDP and the expectation of the meaningful recovery given the fast vaccination process. Dec Industrial and Manufacturing Production (both on Fri) should have a limited impact on GBP.
AUD: Short-term headwinds intensify
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| AUD/USD | 0.7664 | Neutral | 0.7600 - 0.7730 | 0.7700 |
- AUD faced another week of losses before recovering today as a dovish turn by the Reserve Bank of Australia more than offset the positive impact of the global equity rally. Despite the improved global and domestic outlook for the medium term, the RBA extended its bond-purchase programme earlier than expected (it was due to expire in April), keeping the same pace of monthly purchases. Furthermore, the Bank provided a rather bold forward guidance as it forecasted no rate hikes before 2024.
- The implications for AUD may not be limited to the initial reaction as the rising monetary policy divergence likely warrants an underperformance of AUD versus other commodity currencies. Iron ore prices also took a tool on AUD at the beginning of the week as prices tumbled on doubts about the resilience of Chinese demand and fears of rising supply. Prices recovered later in the week partly thanks to Vale’s output missing expectations. Some further correction from such high (and unsustainable, in our view) prices may be on the cards in the next weeks, and this would also fuel AUD relative underperformance. Next week’s calendar is very quiet in Australia, so external factors will dominate price action in AUD/USD.
NZD: Leading the $-bloc
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| NZD/USD | 0.7197 | Mildly Bullish | 0.7170 - 0.7260 | 0.7200 |
- A drop in unemployment in 4Q in New Zealand was only the last one of a series of good data for a country that has clearly weather the pandemic period much better than most other developed peers. Most importantly, contagion numbers continue to argue in favour of loose containment measures: over the past seven days there were only 12 confirmed cases in New Zealand.
- All this will put the Reserve Bank of New Zealand in a difficult spot at the 24 February policy meeting as matching the dovishness of the neighbouring RBA will be very hard. The RBNZ has actually tapered bond purchases twice in 2021, and is looking at an economy that has returned back above pre-pandemic levels. Furthermore, there is a chance that more pressure from the government may come against low rates given surging house prices. All those factors may keep a floor below NZ rates compared to the AU ones, and this translate into additional pressure on AUD/NZD towards the 1.0435 lows hit in early December.
CAD: A tough reality check
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| USD/CAD | 1.2772 | Neutral | 1.2730 - 1.2820 | 1.2700 |
- If US jobs numbers were grim, Canadian numbers were appalling. The economy lost 213k jobs in January as unemployment rose from 8.6% to 9.4%. This was largely a function of fresh restrictions – some of which have been eased by now – and all losses were recorded among part-time workers, but that was still a significant setback considering Canada’s recent good data-flow.
- However, the implications for CAD beyond the very short-term may be limited. The brighter economic outlook on the back of vaccine availability in Canada and in the US (Canada’s main export destination) keep pointing at very little need for the BoC to step in with more stimulus and we still think the risks are tilted towards some tapering in 2021 instead. Looking at the week ahead, the data calendar in Canada is very quiet, so external factors will dominate. Among those, additional signs that the oil rally is gaining momentum should keep the upside on USD/CAD contained.
CHF: USD/CHF could soon retest 0.9000
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| EUR/CHF | 1.0830 | Neutral | 1.0813 - 1.0860 | 1.0800 |
- The franc was the worst performing G10 currency this week as a supported dollar and a risk-on environment forced a break above 0.9000. The negative USD reaction to the US payrolls sent the pair back below 0.9000 today, but with global risk sentiment possibly facing further consolidation next week and the USD having shown good resilience of late, this is a level that could be tested again soon.
- Another factor potentially contributing to a weak CHF momentum is the expected resolution of the Italian political crisis next week as Mario Draghi tries to secure a parliament majority to form a government. Still, considering CHF did not benefit much from rising political uncertainty in Italy in the past month, also the negative impact of a resolution should be contained.
NOK: The worst seems to be over
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| EUR/NOK | 10.2770 | Neutral | 10.2000 - 10.4340 | 10.2500 |
- The Jan inflation (Wed) should show a mixed picture, with headline CPI rising but the underlying measure of inflation falling from 3%YoY. 4Q GDP and mainland GDP (Fri) should both show a positive QoQ reading. The mix of both suggests no change to the NB outlook. The central bank remains the most hawkish bank in the G10 FX space and with the expected 2Q economic recovery, it may even bring the timing of the interest rate hikes further forward.
- With equity markets and the oil price recovering, the worst for the high beta NOK looks to be over and EUR/NOK should remain far below the 10.55 highs seen in late January. Equally, unless we see more tangible signs of the European recovery, the EUR/NOK 10.20 level should act a strong support.
SEK: Little impact on krona from the Riksbank
| Spot | Week ahead bias | Range next week | 1 month target | |
|---|---|---|---|---|
| EUR/SEK | 10.0880 | Neutral | 10.0000 - 10.1880 | 10.1000 |
- The focus of the week will be on the Riksbank meeting (Wed). While the economy did better than expected and CPI is likely to continue rising near term, this is unlikely to alter the Riksbank’s cautious stance. Any signals of rate hikes seem as rather far away, with the Riksbank continuing in its QE programme. With the central banks globally lately turning concerned about overly strong domestic currencies and leaning against it (and Riksbank’s decision to change the way it accumulates FX reserves provided a case in point), we see it as unlikely for the Riksbank to deliver a hawkish surprise next week as SEK strength would not be welcomed
- SEK continues to trade around the EUR/SEK 10.10 gravity line and the same should be the case next week. With Riksbank unlikely to turn hawkish, the EURSEK 10.00 level should not be tested. Elsewhere on the data front, the January unemployment (Thursday) is to have a non-existent impact on SEK.
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