USD: Lower USD For Now. Bearish.
We expect USD will weaken over the next few months as low US yields and a better risk environment support carry trades and commodity currencies.
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The June minutes and Dudley's remarks suggest the Fed is largely okay with current market pricing, keeping US yields low. At the same time, Brexit hasn't been systemic for broader risk markets and as volatility falls, risky assets should remain supported. We likely need a bigger global economic downside surprise, out of China or possibly the Eurozone, to shake the current environment. NFP was strong on the headline but underlying details were weaker, good enough to reduce fears of a recession but not strong enough to bring the Fed back into play. However, in light of some better than expected data, we are watching next week's Fed meeting closely for any sign they adjust market expectations upward for rate hikes this year.
EUR: Upside Potential. Bullish.
This week's ECB meeting provided few surprises and did not commit to easing in September. Our view is even if they do cut by 10bps, in line with our economists' expectations, it will not do much for EUR given banking sector weakness and already extremely low yields. The EBA's stress test needs to be watched as it could bring EMU's banking sector back into focus. We still see upside potential for EUR in the medium term on the basis of real yield differentials, and like buying against USD and particularly GBP.*
JPY: Waiting for BoJ. Neutral
With FX markets responding to headlines on debt monetisation in Japan, but the authorities not revealing specific details on what measures they will implement, we think JPY will be volatile and will wait for the risk events before selling USDJPY again. We will watch the outcome of the BoJ meeting on 29 July and the announcement of the supplementary budget before re-entering any JPY trades. Recent headlines about a more than 20T JPY fiscal package overstate the true amount of spending included (only about 3T JPY), which is what we believe matters most. As long as the BoJ doesn't implement a helicopter money-like solution or implement a much bigger fiscal package than expected, we still believe JPY will strengthen over the medium term as Abenomics goals become increasingly difficult to achieve.
GBP: Sell Rallies. Bearish.
We expect GBP to be highly sensitive to a slew of post-Brexit data points. As these are survey data, they are likely to receive an immediate hit from Brexit, putting GBP under selling pressure. Given our economists' call for a 40bp rate cut at the BoE's August meeting, we see potential for more GBP weakness. Analysis of futures positioning data suggests that any GBPUSD upside may be limited to 1.35, while we expect the downside to extend to 1.24 in the coming months. As such, we think the risk/reward of selling GBP against USD, and particularly against EUR, is favorable.*
CAD: Turning Neutral. Neutral.
We have turned neutral CAD following the surprisingly hawkish BoC meeting. Despite revising down its growth forecast and pushing back the date of output gap closure, the BoC maintained a neutral tone and showed no willingness to ease anytime soon. Based on rhetoric from the press conference, they appear more worried about housing than their forecasts imply, understandable following data released yesterday morning showing a further acceleration of nationwide house prices (mainly due to Vancouver and Toronto). They also emphasized a willingness to look through short-term disappointment on trade data and remained confident that data would eventually rebound. However, by forecasting a strong rebound in 3Q and 4Q growth, the BoC has set itself a high bar: if growth fails to meet these optimistic expectations, easing may come back on the table. For now, we don't like trading CAD from the short side and believe it can appreciate further from here, though positioning remains very long.
AUD: Neutral Ahead of CPI. Neutral.
Private Sector Credit Coupled with USD depreciation and investors’ continued hunt for yield, AUD may stay relatively well supported in the near term. However, we are neutral ahead of the 2Q CPI report next week as a weak print, in line with our economists projections, would increase the probability of easing in August. If strong, AUD could remain supported given decent labor market data and reduced political risks . Our long-term bearish view, however, remains unchanged. and we expect more rate cuts to push AUD lower over the medium term.
NZD: Near-Term Weakness. Neutral.
The weak CPI and high TWI have pushed the RBNZ to release an economic update foretelling easing at the August meeting. For now, we believe NZD can weaken ahead of the meeting if markets price a more aggressive easing path. However, we are skeptical of the RBNZ's willingness to follow through on substantially more easing than market pricing and housing remains a concern despite upcoming macroprudential regulations. We await more clarity from the August MPS and expect NZD could then outperform if the global search for yield continues.