Vaccine and US fiscal stimulus dominate the headlines but investors watching equities

 Vaccine and US fiscal stimulus dominate the headlines but investors watching equities 

• USD: Last week’s major drivers in spot FX include – (1) risk aversion, exacerbated by equity de-risking (S&P down 3.3%, VIX up 11 pp WoW), leading to sell-offs among high-beta currencies against USD, though with Asia EMFX (ex KRW) holding up relatively better, (2) oil and industrial metals underperforming, dragging down exporter FX, notably AUD, and (3) idiosyncratic factors such as a relatively hawkish PBoC benefitting CNH and crowded long position adding downward pressure to JPY. The combination sees USD appreciating 0.4% in broad nominal (NEER) terms with EURUSD down 0.3%. This week is likely to once again be closely watched for whether equities de-risking (notwithstanding the overnight gains) continues as a possible prelude to greater risk aversion within FX markets in coming weeks.    

• G10 FX: Mixed news on vaccines continues - the “good” news is that case counts continue to fall in the UK and US, with hospitalizations also peaking. Overnight, 2 key drug manufacturers also announce an increase in Covid-19 vaccine supply to the EU in Q1 and Q2’ 21. The ”not-so-good” news is that virus risks continue to grow with a lower efficacy rate for the South Africa variant perhaps reinforcing the view that vaccines are not guaranteed to eradicate virus risk this year. The US & UK vaccine rollouts though are faring better but a question mark also remains about the potential for new virus strains in the US to trigger another rise in cases.  

• USD: US fiscal stimulus - weekend headlines refresher - Weekend news highlights a group of 10 bipartisan Republicans offering a $600bn stimulus counter offer to President Biden’s currently standing $1.9tn proposal. Democrats though offer a quick rebuttal while President Biden offers an olive branch to discuss the proposal overnight, but gives little indication he would revert from his original plan. In light of this, Democrats are expected to introduce budget resolutions on the House and Senate floors this week to mark the first step in passing fiscal stimulus via the reconciliation process. A reminder, reconciliation allows the expediting of legislation related to federal debt, spending and revenue to overcome the 60 vote filibuster threshold within the Senate though can only occur once per year.  Passage post-reconciliation consists of a simple majority margin, and with the Senate being deadlocked 50-50, Vice President Kamala Harris has the tie breaking vote for Democrats. But the reconciliation process will likely limit the size of any fiscal stimulus and Citi analysts expect a party-line reconciliation package of $1trln+ (rather than $1.9trn) likely to be passed in March.              

Data releases overnight and over the weekend   

• USD: US ISM manufacturing - labor shortages and rising prices - ISM manufacturing falls back from 60.5 in December to a still-strong 58.7 in January. The decline is driven by a normalization in new orders from a historically elevated 67.5 to 61.1 and production from 64.7 to 60.7. Employment, which has lagged activity and orders, rises from 51.7 to 52.6 while prices paid increase sharply to 81.2, the highest reading since 2011. Key in the data are two dynamics – (1) strengthening demand for labor confronting a rapidly tightening market, and (2) rapidly rising input costs indicative of rising inflationary pressures in the US manufacturing sector.     

• CNH: China’s COVID-19 resurgence hurts near-term sentiment but won’t derail overall recovery - China’s official manufacturing PMI is weaker in January, declining by -0.6pp to 51.3, below market expectations (Citi/Mkt: 51.5/51.6) but still the 7th consecutive reading above 51 and 11th above 50. New orders decline -1.3pp to 52.3, in which new export orders are down -1.1pp to a barely expansionary 50.2 while imports fall -0.6pp to 49.8, reflecting weaker domestic production. Employment also drops sharply by -1.2pp to 48.4. Meanwhile, China’s non-manufacturing PMI slumps -3.3pp to 52.4 in January, also below consensus for 55.0 with the employment index also dropping -0.9pp to 47.8. The data points to the latest COVID-19 outbreak posing downside risks to Citi analysts’ Q1 growth forecast for China at 16% but unlikely to disrupt China’s overall recovery.             

Week Ahead – US nonfarm payrolls, BoE and RBA meetings      

• USD: January Nonfarm Payrolls – Citi: 250k, median: 50k, prior: -140k; Private Payrolls – Citi: 300k, median: 30k, prior: -95k; Manufacturing Payrolls – Citi: 60k, median: 30k, prior: 38k; Average Hourly Earnings YoY – Citi: 5.2%, median: 5.0%, prior: 5.1%; Unemployment Rate – Citi: 6.8%, median: 6.7%, prior: 6.7% -– Citi analysts expect a solid 250k rebound in employment in January. Average hourly earnings should rise 0.3%MoM while the unemployment rate is expected to increase slightly in January, largely reflecting softer employment in the household survey.   

• GBP:  At this week’s BoE meeting, sharp downward revisions to the growth forecast for 2021 are unavoidable, but Citi analysts still expect the Bank to remain relatively optimistic on the recovery, forecasting the dissipation of excess supply by mid-2022. The Bank Rate is expected to stay at 0.1% and asset purchases at £895bn. Citi analysts still expect a 20bp rate cut to -0.1% but in August at the earliest. For now, it seems the MPC’s main aim is to guard against a premature rise in yields in the front-end – by keeping negative rate possibilities alive (but not necessarily implementing them).

• AUD:  RBA Board Meeting: Citi cash rate target forecast; +10bps, Previous; +10bps; Citi 3-year yield target forecast; +10bps, Previous; +10bps - RBA Board is likely to bring forward its forecast on GDP to attain end-2019 levels - from 2021 end to Q3 2021. Improvement should also extend to the labor market but the outlook is still likely to indicate a significant degree of spare capacity and inflation should remain anchored below the bottom of the RBA’s target band until late 2022. Citi analysts base case also remains for RBA to roll forward its QE program by another $AU100bn for a further 6 months from March but for FX markets, attention will likely focus on any comments regarding AUD strength and its adverse impact on the longer term inflation outlook.       

This is an extract from the Daily Currency Update, dated February 2, 2021. Please approach a Citigold Relationship Manager if you would like more information.