-->GOLD: Losing its luster?
GOLD: Citi analysts moderately downgrade their 6-12 month outlook on Gold and pencil-in a less than 50% probability that bullion markets will post fresh nominal highs during the current price cycle. Bearish risks remain with many cogent narratives behind the weak Gold trading environment in 2021 that includes - (1) Increasing risk of Fed taper by 4Q’21 and more aggressive hiking path priced-in by US rates markets in 2022/2023 – markets appear to be pricing 2 Fed hikes through the end of 2023; (2) a post-COVID and vaccine recovery trade that favors crude oil, industrial commodities and other assets versus Gold; (3) A reduced geopolitical bid for Gold following the US presidential elections (as observed in Gold options markets).
GOLD: But the most palpable reason Gold investment activity may have flipped to net outflows in recent months seems to be an expanding investor base if not an outright preference by some institutional players for digital alternative assets.
Making a case to switch funding currencies from USD to EUR & JPY
- USD: Citi analysts upgrade both their oil and copper forecasts which is supportive for sentiment in commodity-centric currencies. At the same time however, Citi analysts also point to higher USD real rates relative to Europe & Japan that could cause the broad based USD Index (DXY) to move higher, particularly given relative growth differentials between the US and rest of the world (RoW) are set to diverge further thanks to increased US fiscal stimulus. This poses the question whether the commodity complex (and commodity FX) can move higher in conjunction with DXY.
USD: Over the past 10 years, there has been a predominately inverse correlation between DXY and the Bloomberg Commodity index, suggesting that the Big $ and commodities can’t rise simultaneously. This is a function of the bursting of the commodity super-cycle in 2012, along with a generally stronger USD thanks to US economic exceptionalism (and policy divergence relative to Europe and Japan). Buying commodity-centric currencies therefore and funding via EUR & JPY during periods of higher DXY and commodity prices has historically yielded positive returns. Citi analysts also point to commodity currencies funded via EUR potentially leading to higher Sharpe ratios than USD funding, with spot return higher and volatility lower. This makes sense in a world where the front-end of USD interest rate curve may become unanchored due to the market pricing Fed hikes 2-3ys forward, whilst the ECB/BoJ remain firmly in negative territory.
Key data/ events overnight
- EUR: German manufacturing booms – the Germany’s Ifo Business Climate index rises to 92.4 February (consensus 90.5), from 90.1 in January. The expectations component beats consensus at 94.2 (consensus 91.7), from 91.1 prior, while the current assessment component proves more resilient than expected at 90.6 (consensus 89.1) up from 89.2 prior. German manufacturing expectations reach their highest level since November 2017. By contrast, services and retail trade remain deep in the recession quadrant, with both expectations and the current assessment well below long-run averages. COMMENT: The Ifo index confirms the results of the euro area PMIs released Friday with the manufacturing sector clearly diverging from the rest of the economy.
- CAD: Statistics Canada walks back on core inflation revisions - overnight, Statistics Canada announces that it is walking back the substantial revisions to Canada’s core CPI measures unexpectedly released last week. As of January 2021, the CPI-Trim and CPI-Median measure both were 2.0%, while CPI-Common was 1.3% (average 1.8%). Now, the core measures continue to rise after a modest undershoot to around 1.6-1.7% in 2020. Citi analysts expect a gradual climb higher toward 2% over the next year and with the old pattern of core inflation restored, Citi analysts now do not expect any substantial change to the policy approach.
Key data/ events in the week ahead
USD: This week, attention will likely be on Fed Chair Powell’s semi-annual testimony to Congress amidst rising US inflation expectations and Q1 growth projections. But Citi analysts do not expect a shift to more hawkish. Other Fed speakers include Governors Brainard & Clarida and President Bullard discussing the US economy and monetary policy outlook. The week also sees the US House of Representatives expected to pass its version of a COVID relief bill. However, the bill may include a minimum wage provision that may be ruled out of the reconciliation process by Senate parliamentarians. This might delay (though not imperil) passage of the bill by the Senate in first weeks of March.
NZD: RBNZ OCR Announcement - Citi forecast; unchanged (0.25%), Previous; unchanged (0.25%) - No changes to the cash rate (OCR) or LSAP (bond purchases at NZ$100bn) in February but the RBNZ will likely significantly upgrade its employment and inflation forecasts. Consensus and market pricing has moved in-line with Citi’s long-held view of no negative rates in NZ. But RBNZ’s balance sheet expansion is expected to persist and financial conditions remain accommodative. Citi analysts expect the RBNZ to remain dovish in the February MPS as talk of rate hikes remains premature since NZD remains elevated. However, RBNZ could lift its estimate of the unconstrained OCR though will likely balance that by pushing out its timing on how long it keeps the OCR unchanged.
CAD: BoC Governor Macklem speaks – Citi analysts expect the speech to touch on “labor market impacts of COVID and sector implications”. The team expects his message to be optimistic, but expressing caution over substantial remaining job losses. More dovish risks could be highlighting downside risks from a stronger CAD or a recently sluggish pace of the vaccine rollout. However, any indication that Q4/Q1 activity is likely to be at least as strong as current BoC forecasts (Citi analysts expect much stronger) would likely solidify expectations for tapering to commence in April.
This is an extract from the Daily Currency Update, dated February 23, 2021. Please approach a Citigold Relationship Manager if you would like more information.