Quite Concerned

From Europe today what we learned

Was growth on the Continent’s turned

But in the UK

It’s not the same way

Which should have the Brits quite concerned

The overnight FX session has once again lacked many, if any, highlights. Broadly speaking, the dollar is a bit softer, but we remain well within recent trading ranges in every currency. Perhaps the most salient news overnight was the release of the European Commission’s Autumn economic forecasts in which they highlight the ongoing strength on the Continent as a contrast to lowering expectations for the UK. The new forecasts pencil in growth of 2.2% in 2017 and 2.1% in 2018 for the Eurozone, both of which are higher than the Spring outlook, while they have cut UK forecasts to 1.5% for this year and 1.3% for 2018, the lowest levels since the financial crisis in 2009. It should be no surprise that the market reaction to the news was a short-term sell-off in the pound.

However, in the ensuing two plus hours, the pound has recouped all those losses on what appears to be a reaction to some comments regarding the resumption of the Brexit negotiations. While no substantive progress has yet been made on that front, there was intimation from several EU voices that an extension of the negotiation process was possible, meaning that the March 2019 deadline might be extended. Clearly, both sides need as much time as possible to complete this project, so any opportunity to lengthen the timeline will be welcomed by all involved. However, given the ongoing turmoil in the UK government, it remains a difficult assumption that they will be able to put forth proposals to encourage the process. From everything that I have read, I would estimate that there is still at least a 30%-40% chance the UK exits the EU with no deal in place. In other words, nothing has changed my view that the pound has further to fall over time.

But away from that story, we have seen almost nothing of note. The scant data released overnight showed that the German Trade balance continues to expand, reaching €24.1B in September, closing in on all-time highs. Arguably, the combination of strong German data and the Commission’s updated forecasts has underpinned the single currency today, which has risen 0.3%. The other data overnight showed that Japanese investors continue to liquidate their international bond holdings with limited outward investment in equities. The resultant cash flows are helping the yen recoup some of its recent losses and actually the yen is today’s best G10 performer, having risen 0.5% as I type.

In the EMG bloc, the winners have been largely EEMEA currencies, which seem to be tracking the euro well this morning and have shown little individual impetus. And away from those, we are looking at movement measured at less than 0.2%. This type of price action is indicative of both a lack of interest and a lack of news.   Given the dollar’s general underperformance today, it is no surprise that the bulk of the EMG bloc is slightly firmer as well.

On the data front, we see Initial Claims, as always, this morning (exp 232K) and then Wholesale Inventories (0.3%) at 10:00. There are no scheduled Fed speakers and so the FX market will need to look elsewhere for catalysts.

One possible place of interest will be the equity markets, which are opening on the soft side and have shown increasing divergence between the broad indices and their constituent components. Continued interest in owning the FAANG’s has driven the S&P 500 to steady record highs while the number of companies within the index trading at new 52-week lows continues to increase. My point is that if the long overdue correction in equity prices materializes, we are likely to see an impact on the dollar. Weirdly, despite the historic case of the dollar being one of the ultimate safe haven assets, in the current world, barring another financial crisis type event, I expect the dollar would suffer against the euro, yen and Swiss franc, although would be quite strong vis-à-vis the EMG bloc. I am not suggesting this is going to happen today, just that as the equity market shows continuing internal divergence, the timing of a correction is drawing nearer. Food for thought.

Good luck