Major Currencies Forecasts - page 6
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GBP: Some Profit-Taking On Shorts Into Quarter-End; We Stay Bearish
There is no doubt that uncertainty has increased and we’d agree that business investment is likely to be a major drag on UK economic growth. As Prime Minister Theresa May noted at the G20 meeting, “I’m not going to pretend that it’s all going to be plain sailing. I think we must be prepared for the fact that there may be some difficult times ahead”. The ‘difficult times’ theme was repeated by her Chancellor Philip Hammond and though he sounded confident about adjusting to a new relationship with the EU and the advantages it offers, businesses are understandably impatient for him to put some flesh on the rhetorical bones. '
German Chancellor Angela Merkel warned at the end of June that, “We will make sure that negotiations will not be carried out as a cherry-picking exercise. There must be and there will be a palpable difference between those countries who want to be members of the European family and those who don’t”, whilst her Italian counterpart Matteo Renzi insists, “The UK can enjoy access to the single market only if it accepts the four basic European freedoms - those of people, goods, services and capital”.
Sell USD/JPY & EUR/JPY Trageting The Low 90s, 100s Respectively
JPY rally yet to reach old-age. The yen has had an impressive rally in 2016 but we think there is more to go. To start with, the rally is still young. The yen is rarely a “middle of the pack” currency, historically alternating between consistent under or outperformance versus the rest of G10 FX. So far this year the yen is the best performing DM currency, but the duration of this outperformance is well below the typical duration of strengthening episodes in the past. Once the JPY becomes a top-3 performer it has historically held this rank for an average of at least 17 months, suggesting plenty of scope for strength until the yen rally dies of “old age”.
Speculators not driving JPY either. We don’t believe positioning is a constraint to more JPY strength either. While the market consensus has shifted from bearishness since the start of the year, it is onshore Japanese investors that have been driving the price action rather than London or NY. The most striking evidence of this phenomenon is a highfrequency analysis of yen price action, which shows that the entirety of the USD/JPY down move since the peak in 2015 has taken place during the Tokyo timezone. Interestingly, Tokyo traders were neutral for the JPY during the Abenomics-inspired rally in 2013 and 2014. It is the structural shift in Japanese flows that began in mid-2015 that have been the primary driver of the JPY turn.
All hail hedging flows. What is the shift in flow that has taken place since the start of the year? Data on hedging flows are hard to come by, but demand for hedging FX exposure by the Japanese has arguably driven the bulk of the move. One financial market measure that is sensitive to hedging demand is the short-dated cross currency basis and this is currently running at multi-year wides. The basis is also sensitive to recent regulatory change in the US money market industry as well as other factors however, so we run a regression of the 1-year USDJPY cross currency basis on a number of related explanatory factors to isolate the effect of hedging demand. We find that the “hedging” component of cross-currency basis is also running at record highs, and conclude that hedging demand remains at a record high.
BoJ policy bullish JPY too. Beyond flows it is the shift in the Bank of Japan’s ability to influence real rates since the start of the year that has also driven yen strength. The new policy framework announced last week is effectively an acknowledgment of the bank’s loss of control of real rates, with the BoJ now targeting 10-year nominal yields and prioritizing bank profitability over the money supply and inflation expectations. Interestingly the correlation between the JPY and JGB 10-year rates has already collapsed to zero, confirming that the new BoJ policy target is not a strong driver of the currency. We worry that the shift to targeting back-end nominal rates exposes the BoJ to self-fulfilling tightening, with a negative shock precipitating additional JGB and JPY demand from onshore investors in turn forcing the BoJ to reduce the pace of JGB purchases to defend the nominal yield target but further tightening policy in the process.
Watch out for the value investor. Amid the structural shift in flow and change in BoJ policy approach it is interesting that China has emerged as a new buyer of JGBs since the start of the year with Chinese purchases of JGBs running at record highs. Portfolio flow data don’t provide information on the identity of the buyer, but a simple error-correction model of China’s FX reserve composition points to a rising share of JPY in the country’s reserves. With the JPY still cheap on our purchasing power parity metrics (USD/JPY fair value at 90) and Japanese 2-year real yields the third highest in G10 when deflated by consensus 2017 inflation, the sponsorship towards yen assets may be broadening beyond local investors. Indeed the proportion of foreign JGB ownership has risen to a new post-crisis high this year.
Political risks galore in Q4. Japan aside both the USD and EUR are burdened by significant political risks over the remainder of the year. The Italian referendum, Portugal’s market access, Spanish government formation, the second Greek program review, Merkel’s fourth leadership bid and the US election stand out as significant political risks on either side of the Atlantic. We would expect surprise outcomes in any to be negative for risk appetite and to disproportionately favour the JPY against either currency. On the central bank front we expect both the ECB and Fed to refrain from policy change until December at the earliest, leaving a two month window of central bank inactivity that allows JPY-positive flows to thrive.
Bringing it all together we like selling both USD/JPY and EUR/JPY to the end of the year targeting the low 90s and 100s, respectively.
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Euro to Pound Exchange Rate to Offer a new 2016 Best Over Coming Weeks Suggest Credit Suisse Tech Studies
Credit Suisse's Christopher Hine has confirmed Pound Sterling remains a core 'short' and see fresh lows against the Euro and Dollar ahead.
The British Pound remains a core ‘short’ with Credit Suisse who say any strength in the currency is only likely to be corrective in nature.
One of the key expressions of this weakness is expected to be the rise of the EUR/GBP pair with the single currency tipped to go as high as 0.91.
The view echoes that held by the bank's fundamental strategists who also note further weakness in GBP over coming months as being likely.
“We have been long-time bears of GBP, and had taken the view that the recovery seen throughout August and into early September was corrective in nature,” says Christopher Hine at Credit Suisse in New York.
EUR/GBP has seen a strong recovery after finding a floor ahead of Credit Suisse’s core support target at 0.8300/0.8242.
Those looking at these two currencies from a GBP into EUR perspective should see the numbers as resistance, 0.83 = 1.2048 and 0.8242 = 1.2133.
“The recovery from here turns the spotlight back on major resistance at 0.8706/0.8816 - the 61.8% retracement of the 2008/15 decline and significant highs stretching back to 2013. We would again expect a ceiling here,” says Hine.
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USD, EUR, JPY, GBP, CHF, AUD, NZD: Weekly Outlook
USD: Bearish USD for Now. Bearish.
We still expect a dovish Fed to weaken USD but there are increasing risks to this view. Our 3Q GDP tracking was boosted to 3.7%, though we now expect an even sharper deceleration into 4Q. Similarly, we expect a bounce in AHE to 2.7% in next week's employment report. We still like selling USD against EM and G10 commodity currencies which are more likely to benefit from a dovish Fed and low G4 yields. A risk-off environment is another key risk to our view but we don't see any imminent catalysts to derail the risk rally.
EUR: Bank Repatriation in Action. Bullish.
We stick to the long EURUSD position* in our portfolio to express our bearish USD view. We think that worries about the European banking sector are actually a bullish sign for the currency as it may lead to banks selling off foreign assets and bringing the money back home. The low EMU yields and flat yield curves have hit banks' profitability, reducing their willingness to absorb foreign FX risk. Banks' foreign loan books growth has also slowed, indicating that long-term capital exports are insufficient to offset the commercial demand for EUR arising from the EMU's current account surplus. This, coupled with the ECB appearing to be on hold for now, supports our bullish EUR view.
JPY: USDJPY Facing Key Levels. Neutral.
The BoJ's change to its monetary policy framework this week is unlikely to change things just yet for JPY but we think there are some building blocks in place for long term JPY weakness through the form of large fiscal stimulus and increased bank profitability. In the near-term though, the 100 and 102.50 levels will be key to see which way USDJPY breaks out of its current range. A weak USD may be enough alone for USDJPY to break to the downside and increase pressure on policy makers to act. A close above 102.50 would be a sign USDJPY has bottomed.
GBP: Hard Brexit Worries. Bearish.
While the demand side of the post-Brexit UK economy has held up better than expected, we think a slowdown in the supply side will weigh on GBP going forward. This is supported by the latest BoE agents' survey reporting that corporates' investment intentions have fallen. Investors have also turned their attention back to Brexit as the government's negotiation position remains unclear, with risks tilted towards a hard Brexit which will significantly reduce the UK's access to the EU market, hitting UK growth. We like expressing our bearish GBP view through buying EURGBP. This week, we watch GDP and PMI numbers
CHF: Upside Against USD. Bullish.
We expect EURCHF to remain relatively stable in its 1.08-1.10 range but have more upside potential against USD. In its latest statement, the SNB lowered its 2017 and 2018 inflation forecasts, indicating that they are likely to maintain their current policy stance. Given our projections for further USD weakness on the back of the Fed not hiking this year, we prefer expressing our bullish CHF view through short USDCHF positions. USDCHF could have more downside to its August low of around 0.9560, in ourview.
AUD: Further Upside. Bullish.
We think AUD has further room to appreciate against the USD if risk remains supported as decent data is enough to keep the RBA on hold and investors seeking higheryielding assets. RBA assistant Governor Kent struck an upbeat tone this week and better than expected GDP growth (though with a mixed breakdown) as well as a falling UE rate are good enough to limit the risks of RBA rate cuts, despite a still worrisome inflation outlook. The RBA accord signed by new Gov. Lowe also emphasized their ability to take into account financial stability concerns when making monetary policy. With AUDUSD at 0.77, it still has room to go higher before the RBA becomes too worried about overvaluation.
NZD: RBNZ Not Stopping NZD Appreciation. Bullish.
The more dovish than expected RBNZ will not be enough to stop outright NZD appreciation but may enough to cause underperformance relative to AUD. The RBNZ changed its statement very little last week despite improving growth data and milk prices and also pointed to slowing house price appreciation. Nonetheless, we believe only an aggressive easing cycle will change the trend in NZD and we won't get more clarity on this until the November MPS. Inflation remains low, but even if the RBNZ does small amounts of easing, it is difficult for the central bank to weaken the currency in a time when markets are looking for anything high yield.
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Euro to Dollar Forecast For ‘This Week’
The outlook for the euro remains relatively strong.
The recent Deutsche Bank (DB) crisis actually strengthened the single currency rather than weakened it, for several reasons.
The first of these was the fact that the DB crisis lessened the chances of the European Central Bank (ECB) expanding stimulus and pressuring interest rates and the euro with them lower.
This is because lower interest rates take a toll on bank profitability and the last thing the ECB would want to do would be to further endanger the health of its already vulnerable banking sector.
Secondly, the DB crisis reverberated around the globe leading to an immediate sale of risky assets, many of which had been funded by euro-denominated loans (due to the low lending rates set by the ECB in the Eurozone).
This led to a repatriation of euros after the assets were sold, increasing the demand for euros.
Finally, weak Eurozone banks have been blamed for not being able to ‘recycle’ - or lend out - the large current account surplus, leading to net euro inflows and therefore a stronger currency.
For several reasons the outlook still supports the euro.
The dollar, meanwhile, remains heavily dependent on whether or not the Federal Reserve choose to increase interest rates in December.
Friday’s Non-Farm Payrolls – although marginally lower-than-expected -nevertheless kept the door open to the Fed raising rates before the end of the year.
CIBC Economics’ Royce Mendes, said the rise in payrolls was more than what was needed to “outstrip population growth.”
“It might not have lived up to the rebound markets were hoping for, but today’s employment report in the US still showed solid progress.
“In addition to another payroll gain that outstrips what’s needed to cover population growth, other details in the report also showed strength in September.
“Following a soft spot for economic data in August, the limited indicators released thus far for September have been largely positive, keeping the door open for a rate hike later this year.”
Technical View
The EUR/USD chart is showing a possibility of further upside.
The pull-back from the August highs has formed a consolidation which arguably indicates more upside on the horizon.
The red lines labeled A,B,C and D on the chart suggest a three wave move higher from the July lows, with the current price action constituting the ‘B-C’ part of the pattern.
It also suggests that ‘B-C’ will end soon and evolve into a ‘C-D’ up-wave, which is likely to be roughly equal in length to ‘A-B’.
The three largest moving averages (MA) – the 50, 100 and 200-day MA’s provide strong support to price action at about the 1.1125 level, and each time the exchange rate has moved down it has been unable to break lower.
A breakout to the upside is expected, with a move above the 1.1280 late September highs, confirmed by a move above 1.1300, expected to lead to a target at 1.1345.
Data for the Euro
In a relatively quiet week, the main release for the Euro is the German ZEW sentiment survey.
The ZEW asks financial professionals for their opinion on the current economic situation and the medium term (6-month) outlook for the German economy.
It is considered a useful and fairly reliable indicator of future activity.
The forecast is for a balance of plus four in favour of a more optimistic assessment of the economy, from the previous 0.5 result.
Data for the Dollar
A quiet week for the dollar sees the first main release on Wednesday, with the Federal Open Market Committee (FOMC) meeting minutes.
According to commentary from broker TD Securities, “On the back of the upbeat tone of recent data, we expect the minutes to reinforce the near-term hawkish stance of the September meeting with the overwhelming majority laying out the arguments for taking the next step in normalization.”
A speech by Fed Chairwomen Janet Yellen on the same day is also likely to reflect a desire for higher interest rates, in line with recent commentary.
Then on Friday we see the release of Core Retail Sales in September, which is forecast to rise 0.4% from -0.1% in the previous month.
Retail Sales is expected to show a 0.3% increase from -0.3% in August.
Factory Gate prices are also out on Friday with analysts estimating a 0.3% rise in September.
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Here Are The FX Opportunities Into Year-End
Looking to the rest of the year we would summarize our views as follows.
1- The US election remains a key risk and markets are underpricing it. We like FX vol.
2- The USD will rally as the market is still pricing a low probability for a Dec hike.
3- The EUR may weaken as the ECB extends QE, but we think this will be a buying opportunity, particularly against JPY.
4- We would not try to catch a falling knife, but GBP is now close to our forecast of the lows and undervalued compared with data and fundamentals. We may not be far from a tactical buying opportunity.
5- Stay long on the scandies, as they have limited downside risks but lots of upside potential, particularly against CHF, which has limited downside risk.
6- Positioning and valuation supports being long AUDNZD.
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Adjusting GBP Lower And For Longer: New Targets
Bottom Line: We are changing our forecasts to expect more GBPUSD weakness in coming quarters and little recovery next year. The higher probability of a "-Brexit" and uncertainty for businesses should drive reduced investment into the UK, particularly from foreign investors. Less investment should push GBP weaker through a lower economic growth trajectory. GBP short positioning isn't yet extreme, it can go even lower, in our view.
On GBPUSD we target 1.21 for the end of this year and see a low of 1.15 in 1Q17 before a recovery back to 1.22 by 4Q17.
The GBP bull case. Where could we be wrong on this bearish GBP projection?
First, the government may soften its stance,allowing the Parliament to vote on Brexit negotiations, which could then put EU market access back as the main priority of upcomingnegotiations with the EU. In this case, GBP may turn back to levels traded in July/August, i.e., rally 10% from here.
Secondly, the government may introduce private/public partnership funding infrastructure projects leading to better economic activity and inflows. Should such an approach follow at the same time the government moves towards a softer Brexit stance, GBPUSD may even move up into upper 1.30s handle.
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USD, EUR, JPY, GBP, CHF, CAD, AUD: Weekly Outlook
USD: Bullish USD. Bullish.
We are increasingly believing the USD is moving back to its long-term bullish trend driven by widening yield differentials and output gap divergence. US data has improved, election uncertainties have subsided and risk appetite remains fragile, all factors which point to USD appreciation. We expect USD strength to be most pronounced against low yield G10 (JPY, SEK, GBP) while EM currencies may stay relatively resilient.
EUR: EUR Crosses Holding Up. Neutral.
EURUSD has come under selling pressure on the back of broad USD strength and we expect this could continue as USD continues to strengthen. However, we think EUR will remain supported on the crosses. Recent ECB commentary has cautioned about low/negative interest rates, suggesting that there may be few cuts left in the ECB's toolbox. Global and EMU inflation also ticked up in September which, if sustained, could lead to ECB tapering talk coming back into focus and a reduction in the pricing of rate cuts (12bp cut priced by Apr 2017), providing support for the currency. Should risk appetite turn sour, EUR crosses will also remain supported.
JPY: JPY Weakness Building. Bearish.
We expect further USDJPY strength as long JPY positions unwind and Japan moves toward a more expansionary fiscal stance. Consensus remains bullish JPY and long positioning is near record levels. The new BoJ policy is more sustainable than previous policies and gives the Bank more flexibility to steepen the curve, thus supporting bank profitability. The BoJ's policy all sets the stage for additional long-term bond issuance and fiscal stimulus over the next few months. Additionally, unhedged outflows are likely to be increased over the coming months given the increased hedging costs (widened USDJPY basis), further supporting USDJPY.
GBP: Short Covering Rally Before Sustained Weakness. Neutral.
We are changing our forecasts to expect more GBPUSD weakness in coming quarters and little recovery next year. However, we expect some short-term strength due to the market's large short positioning and signs of the government rethinking its hard stance on Brexit, including allowing Parliament to vote on Brexit negotiations. Any improvement in the news flow gives GBPUSD upside potential to 1.2685, and should the government be able to leave the impression that EU market access remains one of its main objectives, GBPUSD could rally to 1.3450. This week, there are many major data releases including CPI, unemployment and retail sales, but we think any positive surprise will provide short-lived support for the currency as GBP is predominantly driven by politics currently. Over the medium term, we expect investment weakness and political uncertainty to push GBP lower.
CHF: Weaken Against USD. Neutral.
Given our projection for USD strength, particularly against the low yielding currencies, we think USDCHF can continue to move higher. Should risk appetite be hit by a stronger USD and yield curves steepening globally, CHF may receive a boost. With the SNB standing ready to intervene, the downside for EURCHF is likely to be limited to 1.0750, keeping the pair within its 1.0750-1.11 trading range. Even though Switzerland's CPI has recovered in 2016, we do not expect the SNB to change policy anytime soon, given the SNB lowered its 2017 and 2018 inflation forecasts in its last statement and the IMF supporting the SNB's use ofvery negative interest rates and FX interventions to support inflation.
CAD: CAD Underperformance. Bearish.
We remain bearish on CAD ahead of next week's BoC meeting where we expect a dovish outcome. In its previous meeting, the BoC stated that inflation risks have tilted somewhat to the downside and growth may be somewhat lower than anticipated in July, softening the hawkish tone that it had been adopting so far despite weak economic data. Deputy Gov. Wilkins reiterated these themes in her speech last week. This increases the possibility of the BoC cutting rates over the next few months, particularly in light of weakening inflation data. 3Q growth expectations have improved somewhat in recent weeks due to better July GDP and a narrower trade deficit but we are still skeptical the BoC's forecasts will be reached. Given the markets are pricing only a few bps of rate cuts for this year, and CAD has the largest long positioning in G10, we think further data weakness could weaken CAD significantly. We like selling CAD against other commodity currencies.
AUD: Vulnerable to Fed and Risk. Neutral.
We believe AUD may outperform other commodity currencies but the currency remains vulnerable to Fed hikes and a fall in risk appetite. Data has been strong lately, including last week's retail sales and trade data, and Gov. Lowe shows no greater inclination to ease than the previous governor. We think the bank will remain on hold throughout 2016 and record building approvals data is another sign that risks of further rate cuts to financial stability remain high. Nonetheless, AUDUSD will likely be driven by Fed rate hike probabilities as well as general risk appetite and we prefer expressing AUD longs against NZD or CAD.
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USD: Largest Weekly Gain Since February But Caution In Extrapolating Up-Trend
The US dollar has continued to trade on a stronger footing coming off the back of its largest weekly gain since late in February. The US dollar is deriving support both from positive domestic factors and negative developments in the near-term which are increasing its relative attractiveness. Market participants remain confident that the Fed plans to resume rate hikes in December unless there is a negative shock or economic surprise. The latest FOMC minutes signalled that the Fed is relatively close to resuming rate hikes.
Recent economic data flow from the US has been disappointing on balance but not yet sufficient to more seriously undermine market expectations for a December rate hike. The latest retail sales report and University of Michigan consumer confidence survey were both consistent with softer consumption growth. Control retail sales expanded weakly by 0.1% in September lowering the three-month average annualized rate of growth to just 0.3% down sharply from an expansion of 6.9% in June. There has clearly been payback weakness in Q3 after very robust growth in Q2. The weaker than expected retail sales report has resulted in further downward revision to estimates for GDP growth in Q3. The Atlanta Fed’s latest estimate is that the economy has expanded by just under 2.0% in Q3 which would represent only a modest strengthening after expanding by 1.4% in Q2. More worrying was the decline in consumer confidence evident in the University of Michigan’s latest survey which likely responded to higher gasoline prices. Their expectations component of consumer confidence declined to a 26-month low in October. If sustained it is consistent with below trend consumer spending. Overall, both reports highlight a December rate hike although likely is not yet a done deal which should help dampen scope for further US dollar upside in the near-term.
The Fed has also been displaying some dovish signals recently reinforcing our perception that even if it resumes raising rates in December it is unlikely to be in a hurry to follow up the hike during next year. In a speech on Friday, Fed Chair Yellen provided a further hint that she has some sympathy for the view that allowing the economy to run a little hot for a while could help to reverse damage done to the supply side of the economy during the recession and slow recovery. She saw plausible ways that temporarily running a “high pressure economy” might encourage business investment, draw in additional potential workers and perhaps prompt higher levels of research and new firm start-ups. However, she judged that the benefits are hard to quantify and that the costs in terms of higher inflation and financial stability could exceed the benefits. It fits with our view that the Fed is unlikely to raise rates more than twice next year even as inflation pressures continue to build as was evident again in the latest PPI report. The annual rate of core producer price inflation accelerated to 1.5% in September reaching its highest level since November 2014.
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EUR: Our Trading Strategy Post-ECB October Meeting
Yesterday’s ECB press conference did not bring much new to the table. President Draghi stated that the Governing Council is waiting for fresh macroeconomic projections and for further technical inputs from a staff review of the ongoing asset purchase programme before deciding what its next moves should be. All this information will be discussed, and acted upon, at the 8 December policy meeting. On our preferred measure, Euro area overall financial conditions have eased marginally further, extending a move started in early October.
The case for an extension of QE beyond March 2017 remains intact, in our view. The market prices headline Euro area inflation to remain just under 1% over the average of the next 5 years. The options market for Euro area inflation indicates that the market fears an even lower trajectory. As shown in Exhibit 1, the implied probability that inflation will be at or below 1% is currently in the region of 70%, and has not changed in response to higher energy prices. Since core inflation is already running at around 1%, and considering that 'base effects' from energy will mechanically push headline inflation up over coming months, market forwards are in effect discounting underlying inflationary pressures to abate – far from the ‘self-sustained’ price dynamics that Mr. Draghi says he wants to see in place.
Admittedly, it is difficult to have strong confidence in the combination of technical QE parameters that the Governing Council will decide to tweak and, consequently, what the resulting shifts in the relative pricing of EMU government bonds could be.
Our recommended strategy consists of: (i) staying long 'breakeven' inflation (we think that the market-implied odds of low-flation reported above are too high, especially considering the relaxation of the fiscal stance); (ii) position for a further sell-off in long-dated Bunds (partly reflecting a move up in US and UK rates); and (iii) expect peripheral sovereign yields to stay roughly where they are now in the process.
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