-->FX market performance in 2020 – a solid recovery in risk FX pairs
G10 FX: Falling US real yields and vaccine optimism likely behind the sharp recovery in risk FX in 2020 - following the sharp dip in risk appetite in mid-March 2020, there is no looking back as the Covid recovery takes hold and takes risk FX pairs such as AUD, NZD, CAD, GBP and EUR to new highs. Safe haven FX performance on the other hand (CHF, JPY, Gold and USD) is more mixed - Gold is up 25% for the year, topping all currency pairs, driven by multiple factors including safe haven flows and sharply falling US real yields while JPY and to a lesser extent CHF weaken on most non USD crosses. It is USD that fares worst in 2020 as investors unwind safe haven USD longs established at the onset of the Covid-19 crisis with an ultra-dovish Fed and Democrat Joe Biden’s election win exacerbating the weakness. But with the broad based USD Index (DXY) now having dropped 7% in 2020 and with FX positioning indicators showing near record USD shorts, this begs the question as to how much of the positive risk drivers are now discounted, going into 2021.
Review of central bank announcements in December
- USD: December FOMC meeting – QE tapering risks rise around the September 2021 meeting – the FOMC statement comes with a slight hawkish tilt as forward guidance on asset purchases changes to qualitative outcome-based. Citi analysts now pencil in a likely announcement of tapering in September 2021 and see Fed rate hikes possible by late 2022.
- JPY: BoJ to assess measures under its Yield Curve Control (YCC) framework at the March meeting – at its December meeting, BoJ indicates it will assess measures under the YCC framework at the March meeting. As such, a fundamental change in the policy framework looks highly unlikely but a possible move may be to change its long-term yield target from 10 to 5 years, for instance.
- GBP: BoE policy support via additional QE than rate cuts – December meeting sees no reference to negative rates and Citi analysts are neutral on the prospect of one (sterling supportive at the margin) with additional policy support likely to come from continued (and flexible) asset purchases.
- CHF: SNB sticks to the script on CHF – SNB’s language on CHF at its December meeting is dovish - “In light of the highly valued CHF, SNB remains willing to intervene more strongly in the FX market.” Citi analysts note the statement is much more extensive on downside risks from the second wave of the pandemic in Switzerland, US and Europe, than on upside risks from global policy support.
With markets now pricing the positives – where are risks in 2021?
- G10 FX: Vaccine optimism priced in but what about “extended lockdowns” risks? - EU approves Covid-19 vaccines in December for conditional market authorization and joins the US, UK and Canada. Vaccine optimism has had a tendency to outweigh short-term virus risks but 2 points are noted - (1) While focus is on frontrunners that have already reported Phase III results, current supplies alone are not enough to achieve sufficient herd immunity. (2) Whether initial rollouts can be delivered on time will be indicative of 2021 vaccine rollout, and ultimately, herd immunity timelines. What about lockdowns? – While vaccines are being rolled out, there is an obvious problem of sequencing - virus and lockdown risks cannot be eradicated in the coming months… that create added headwinds to current vaccine timelines and Q1 growth expectations. Hospitalizations continue to be the key metric to assess lockdown risks with the latest data suggesting that the US, UK and parts of Europe may still be in need of further lockdown measures.
- USD: A lower fiscal stimulus bill may dent the election bid of Republican senators in Georgia this week – the USD2.3 trillion omnibus spending bill, including $900bln in COVID-19 relief is signed into law by President Trump but only with direct $600 stimulus checks rather than raised to $2,000. This opposes the Democrat controlled House’s bill to increase stimulus payments to $2,000 from $600 earlier this month, supported by at least 6 Republican Senators – including Perdue and Loeffler who are facing run-off elections in Georgia and who’s election bid may now be dented as a result. Should the Senate fall into Democrat hands, this would constitute a “blue wave” sweep across the 3 peak policy making bodies (White House, House of Representatives and Senate) – a likely USD negative but which may now be fully discounted by the 7% drop in USD Index (DXY) during 2020.
- GBP: Brexit - a deal done, but significant pain to come – the long-awaited UK-EU trade deal is agreed. However, whilst the FTA ensures zero tariff access from 1 January 2021 and likely provides a starting point for constructive future economic and political relations, the reality of a ‘Canada minus’ deal, with threadbare access combined with fewer assurances is likely to see near term economic pain for UK. More importantly, the direct near-term economic benefits relative to no-deal are likely small, leading to a boost to UK output of only around 0.5-1pp in 2021 compared to a No-Deal.
- CNH: China’s official PMIs still in expansionary territory but pull back from multi-year highs - economic activity slows in December with the manufacturing PMI falling to 51.9 from 52.1 in November and non-manufacturing PMI falling to 55.7 from 56.4. This leads China’s Composite PMI to dip 0.6 points to 55.1 and while still above 55 for the 4th consecutive month, the data leads many analysts to question whether China’s economic recovery (expected to continue) may have peaked.
- CNH: US – China tensions to remain a theme in 2021 – the NYSE delists key Chinese telco giants on an U.S. executive order that imposes restrictions on companies identified as affiliated with the Chinese military. These Chinese companies have separate listings in Hong Kong have no meaningful presence in the U.S. except for their listings there. Their shares are also thinly traded on the NYSE compared to their primary listings in Hong Kong, making this NYSE delisting more of a symbolic blow for now but likely to exacerbate geopolitical friction between the U.S. and China.
This is an extract from the Daily Currency Update, dated January 4, 2021. Please approach a Citigold Relationship Manager if you would like more information.