In England and Scotland and Wales
The vaccine will soon be for sale
But Brexit remains
A source of more pains
If talks this week run off the rails
What a difference a day makes, twenty-four little hours. Yesterday morning at this time, the bulls ruled the world. Equity markets were rallying strongly everywhere, bond markets were under pressure, and the dollar was breaking below two-year support levels. Although most commodity prices were having difficulty extending their recent gains, gold did manage to rebound sharply all day, and, in fact, is higher by another 0.7% this morning, its death being widely exaggerated.
However, aside from gold, this morning looks quite different on the risk front. Perhaps, ahead of a significant amount of data coming the rest of the week (ADP this morning, NFP on Friday), as well as next week’s ECB meeting, this is, as a well-known Atlanta based beverage company first told us in 1929, the pause that refreshes.
Arguably, the biggest news this morning is that the UK has cleared the first vaccine for use against Covid-19 with the initial doses to be injected as early as next week. I don’t think anyone can argue with the idea this is an unalloyed positive for just about everything. If it proves as effective as the initial testing indicated, and if a sufficient percentage of the population gets inoculated, and if that leads to a rebound in confidence and the end of all the government imposed economic restrictions and lockdowns, it could open the door for 2021 to be a gangbuster-type year of growth and activity. But boy, that sure is a lot of ifs!
And a funny thing about the market response to this news is that…nothing has happened. The FTSE 100 is higher by a scant 0.2%, and has not shown the strength necessary to support other European markets as both the DAX (-0.3%) and CAC (-0.2%) are in the red. Is it possible that the markets have already priced in all the ifs mentioned above? And, if that is the case, what does it say about the future direction of risk appetite?
This being 2020, the year with imperfect hindsight, it should also be no surprise that the good news regarding the vaccine was offset with potential bad news about Brexit. Michel Barnier, the EU’s top negotiator, indicated that while the mood was still positive in the round-the-clock negotiations, it is very possible that no deal is reached in time to be ratified by all parties. And that time is drawing near. After all, the previous deadlines were all artificial, to try to goose negotiations, but December 31st is written into a treaty signed by both sides. The contentious issues remain access to UK waters by EU fishing vessels and the idea of what will constitute a level playing field between UK and EU companies given their newly different legal and regulatory masters. In the event, GBP (-0.8%) is today’s worst G10 currency performer as it quickly fell when Barnier’s comments hit the tape. Something else to keep in mind regarding the pound is that it feels an awful lot like a successful completion of a Brexit deal is entirely priced in. So, if that deal is reached, the pound’s upside is likely to be quite limited. Conversely, if no deal is agreed, look for a substantial shock to the pound, certainly as much as 5%-7% in short order.
And with that cheery thought in mind, let us peruse the overall market condition this morning, where eyeglasses are losing their tint. Equity markets in Asia overnight were as close to unchanged as a non-holiday session would allow, with the largest movement from a main index, the Hang Seng, just +0.1%. Both the Nikkei and Shanghai moved less, as investors seemed to be coping with a bit of indigestion after the recent sharp rally. As mentioned above, European bourses have been no better, with only Spain’s IBEX (+0.4%) showing any hint of life, but the rest of the continental exchanges all in the red. Even US futures markets are under modest pressure, with all three lower by about 0.2%.
The Treasury market saw an impressive decline yesterday, with yields rising 7 basis points in the 10-year, as the risk rally exploded all day long. European bond markets also declined, but not quite like that. Given the ECB’s reported -0.3% CPI reading, the case that bond yields on the continent should be rising is very difficult to make. This morning, though, movement is measured in fractions of basis points, with only Italian BTP’s having recorded anything larger than a 1 basis point move today, in this case a decline in yields. Otherwise, we are + / – 0.5 basis points or less in Treasuries, Bunds, OAT’s and Gilts. In other words, nothing to see here.
Oil is feeling a bit toppish here, having rallied 36% during the month of November, but how ceding about 4% during the past few sessions. OPEC+ talks remain mired in disagreement with the previous production cuts potentially to be abandoned. However, taking a longer-term view, analysts are pointing to the changes in the US fracking community (i.e. bankruptcies there) and forecasting a significant decline in US oil production in 2021, which, if that occurs, is likely to provide significant price support.
And finally, the dollar, which fell sharply against virtually every currency yesterday, led by BRL (+2.7%) in the emerging markets and EUR (+1.2%) in the G10, has found its footing today. Looking at the G10 first, NOK (-0.65%) is the laggard alongside the aforementioned pound and SEK (-0.5%). The euro (-0.25%) has maintained the bulk of its gains after having finally pushed through key resistance at 1.2011-20, the levels seen in early September. Remember, short USD is the number one conviction trade for Wall Street for 2021, and EUR positions remain near all-time highs.
An aside in the euro is that markets continue to look to next week’s ECB meeting with expectations rife the PEPP will be expanded and extended. Madame Lagarde promised us things would change, and every speaker since, including the Latvian central bank President, who this morning explained that €500 billion more in the PEPP with a timing extension to mid-2022 would be acceptable, as would an extension in the maturity of TLTRO loans to 5 years. The point is that despite the confidence so many have that the dollar is destined to collapse next year, there is no way other central banks will allow that unimpeded.
Back to markets, on the EMG slate, the situation is similar with more losers than gainers led by ZAR (-1.1%) and PLN (-0.6%). Of course, both these currencies saw stronger gains yesterday, so this seems to be a little catch-up price action. Actually, CLP (+0.65%) has opened stronger this morning, simply adding to yesterday’s gains without an obvious catalyst, while KRW(+0.5%) continues to benefitt from better than expected trade and GDP data.
On the data front, this morning brings ADP Employment (exp 430K) as well as the Beige Book this afternoon. As well, we will hear again from Chairman Powell, who in the Senate yesterday told us all that there needed to be more fiscal stimulus and that the Fed would do all they can to support the economy. Given this has been the message for the past six months, nobody can be surprised. However, one idea that seems to be developing is that the Fed could well announce purchases of longer dated bonds at their December meeting in two weeks’ time, which would certainly have an impact on the bond market, and would be seen as easier money, thus likely impact the dollar as well. When he speaks to the House today, don’t look for anything new.
All told, today is a breather. Clearly momentum is for a weaker dollar right now, but I continue to believe these are excellent levels for receivables hedgers to act.
Good luck and stay safe