Conspiracy Theories and Tin Foil Hats
Instead of policy convergence, the ECB and the Feds are heading for divorce. This week the ECB delivered one of their better changeups catching the markets leaning the wrong way. But in retrospect, perhaps the most significant surprise is the markets failed to pick up on the ECB’s well-telegraphed signals that one of their more notable fears is that the firming Euro is hurting Eurozone exporters.
This weeks ECB decision to keep the monetary floodgates open refusing to call an end to central bank largess has weakened the euro and will provide an export-driven boost to EU economies.
A weak euro, of course, is entirely what ECB President Mario Draghi wants. It makes exports cheaper, ensuring the absolute competitiveness of euro-zone countries while simultaneously increasing the price of imports propping up inflation
We should probably be looking for low-risk low-cost strategies to play the stronger dollar narrative into years end instead of dwelling on conspiracy theories, but after this week’s sudden G-10 Central Bank policy shifts, a concern may start to creep in that we’re back on the cusp of a currency war.
On top of the roller coaster rides offered by the headline-driven game of musical chairs for the Fed Chair nomination. It will be interesting to hear President Trump and company (Mnuchin / Cohn) retort after reviewing this weeks FX charts
With G-10 currencies bleeding a sea of red, it’s hard NOT make a case that global central bankers are trying to steal some of the US’s economic thunder through overtly guiding their domestic currencies lower. Let’s just hope we don’t go back to the protectionist highway, but somehow I see that drive coming as the chorus of dovish G10 central banks is far too convincing to ignore
Removing my conspiracy theorist tin foil hat for a moment, in reality, the ECB could be doing little more than playing for time until the political mess in Spain abates and more clarity over the next Fed chair unfolds. Let’s see how this plays out in weeks ahead.
The US Dollar
While the USD sparkle looks to extend into next week, the glimmer faded slightly when Fed Chair speculators pointed their Ouiji board to Powell and tempered USD’s broader advances after a pinch of salt type headlines suggested Powell was Trump’s choice. Indeed, markets are still nervous waiting for the Fed Chair green light before kicking into high gear. But the bottom line is: "The president has not yet decided which of the two front-runners will get which job, the sources said". However, expect Fed Chair headlines to accelerate as we near November 3 and wise to belt in for the expected roller coaster ride.
Not surprisingly given the markets focus on the Fed Chair hullabaloo, A robust US Q3 GDP reading failed to move the dollar dial convincingly as long short-term dollar positions were stretched on Friday and looking to book profit post GDP gap.
Asia FX
In Asia Fx, the higher currency correlation to US bond yields lately suggests we could see an acceleration of local bond hedging activity on a breach of UST 2.50 % level. If localised dollar demand does materialise, there could be a high probability for an overshoot so the Em investors may err on the side of caution and let the dust settle on this broader USD dollar move before aggressively re-engaging. However, given the breadth of G-10 currency moves, the Asian FX complex has held in very well. Global and Regional Macro conditions remain favourable; the geopolitical risk is abating, and China continues to hold up their end of the bargain all underpinning regional sentiment. There’s no hint of panic as of yet.
Malaysian Ringgit
In Malaysia, The budget was received positively and geared towards maintaining stability in both the FX and Bond markets through fiscal prudence
Also, the financial burden of lower oil prices in 2017 will be offset by GST receipts where Income tax is anticipated to make up almost half of Malaysian government revenue amid robust economic growth.
But with improving oil prices, this will be viewed positively
Despite the positivity surrounding the budget, the currency and local bond markets remain prone to risk from the prospects of higher US interest rates and the soaring USD after the extremely dovish ECB lean sent the USD higher. But on a positive note, with most G-10 central banks turning dovish this too could suggest a return of investment flows. More so given the trial and error approach the Feds will take to reduce the balance sheet implying that regardless who takes the helm at the Fed, interest rate normalisation may not deviate too far for from the current dot plot
Weekend Risk
The focus will be on Monday EUR open. Difficult to determine if the event risk for an impending ART 155 trigger is fully priced or not as the Euro barely blinked on the plethora of Catalonian headlines in early NY.But as opposed to last weekends event risk, the EURO is on a policy divergence triggered downtrend, and Fund managers may view any negative headlines as an excuse to flush more EUR long positions on the Monday open.
