The Week Ahead: When Good News Is Bad News

Foreign Exchange: The Week Ahead
When Good News Is Bad News
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
The big market moving news last week was the agreement between the US and China on a Phase 1 trade deal. While there is still some uncertainty around all the details, such as how much more China will purchase from the US, the agreement is a positive for the markets although not an unmitigated one. Looking at Australia, the Phase 1 trade is likely met with mixed feelings, not unlike the dynamic that Australia has had with the US and China for a while.

Pulling back to a higher level, Australia has been stuck in this "between a rock and a hard place" dynamic for a while. The economic benefit from the Australia-China relationship is fairly clear. This year, Australia recorded its first current account surplus since 1970 due to a huge expansion in exports that has largely been driven by exports to China. With regards to the Australia-US relationship, the US is the largest direct investor into the finance, technology and retail sectors. These are the sectors that have a bigger impact on employment and productivity.

However, despite the economic benefit that Australia gains from trade with China, tensions between the two countries have been rising. The major issues include political interference, Australia's support for free navigation in the South China Sea, and China's perception that it is being singled out by Australian legislation limiting foreign access. All of this has resulted in no Australian PM visiting China in over 4 years. Australia's relationship with the US is also not without complexity. The US has been pushing China to buy more agricultural and natural resources from the US. These are exactly the goods that Australia trades with China and makes Australia a potential loser in a Phase 1 deal.

The Australian government has long maintained that it does not have to choose between a US alliance and the deepening economic relationship with China. The costs of a decoupling of the US and China comes with high costs. As such, expect Australia to work to maintain the balance as long as possible. However, as recent events have illustrated, this stance has been increasingly complex to maintain.

FORECASTS

EUR

The euro has been on an upwards trajectory since the start of the month. A large Conservative majority in the UK, positive US-China trade news, and divergent massaging from the Fed (dovish) and ECB (on hold) have all provided support for the currency. Given this, there still remain questions around Brexit and US-China with the ultimate trading relationship between the UK and EU unknown and US tariff rollbacks only modest. Flash PMIs are due on Monday and will provide insight into whether or not the EZ economy is bottoming. On net, the feeling is that the euro should remain supported.

GBP

The UK elections gave the Conservatives an emphatic victory and increases the chances of a Withdrawal Agreement that leans towards a softer Brexit. With a large majority, Johnson should be able to distance himself further from Eurosceptic members. While the UK election reduces global risks it doesn't eliminate Brexit costs on the UK as the removal of political uncertainty is not the same as repairing economic damage. Additionally, the trading relationship with the EU is still unclear, making it difficult to assess the fair value of UK assets and the GBP exchange rate. Neutral on GBP for now.

JPY

Over recent sessions, USDJPY has been trading in line with US-China trade rather than with domestic economic data. As such, it isn't surprising to find USDJPY weaker as the US and China wrap up their Phase 1 deal. It is notable that tariff rollbacks are not as meaningful as initially reported and there remains uncertainty around how much China will actually increase its US purchases. While recent developments have been positive, the medium term outlook remains unchanged. Expect the yen to continue to trade at the upper end of the range it has been trading in.

CAD

The BoC delivered a hawkish hold at its last meeting as its outlook was more bullish than markets expected. Since then, the Canadian economy posted a bad jobs report but recent comments from the central bank appear to dismiss the report as a one-off miss as the labor market remains strong overall. Further adding to CAD strength was the progress made on USMCA. Expect the CAD to continue to range trade with weakness expected over the medium term.

CNY

The trade deal with the US should help the CNY, but with tariff rollbacks modest, the overall view doesn't materially change. This was illustrated by price action last week that had the CNY move below the 7 yuan to 1 USD level only to retract back higher. Overall, the markets appear to be moving in the direction of de-escalation, but questions still remain around how long this will last. Expect the PBoC to continue to strive for currency stability.

AUD

The boost in risk sentiment (Phase 1 deal and UK elections) have helped the commonwealth currencies. However, the US concessions have come out to be more modest that initially reported. While the Phase 1 deal is positive for the markets, there are some negative aspects for Australia (see above). The AUD is no longer a high yielder and the AUD's sensitivity to pickups in global growth has fallen a bit. Expect the AUD to trade lower.

MAJOR CENTRAL BANK ACTIVITY THIS WEEK

12/17 Thailand Expectations for rates to be unchanged at 1.25%
12/18 Czech Republic Expectations for rates to be unchanged at 2.00%
12/18 Japan Expectations for rates to be unchanged at -0.10%
12/19 Sweden Expectations for rates to be raised by 25 bps to 0.00%
12/19 United Kingdom Expectations for rates to be unchanged at 0.75%
12/19 Norway Expectations for rates to be unchanged at 1.50%
12/19 Mexico Expectations for rates to be cut from 7.50% to 7.25%

KEY MARKET MOVING ECONOMIC RELEASES

United States and Canada

12/16 Empire Manufacturing Expectations for a gain from 2.9% to 4.0%
12/16 Markit Manufact. PMI Expectations for slight decline from 52.6 to 52.5
12/17 Housing Starts Expectations for a gain from 1314k to 1340k
12/17 Industrial Product. Expectations for a strong rebound from -0.8% to 0.8%
12/20 Personal Inc. & Spend. Expectations for solid gains of 0.4% and 0.3%
12/18 Canadian CPI Expectations for a 0.0% print; YoY rises to 2.3%

Europe/Eurozone 

12/16 EZ Composite PMI Expectations for a small gain from 50.6 to 50.7
12/16 German Comp. PMI Expectations for a gain from 49.4 to 49.9
12/18 German IFO Expectations for a gain from 95.0 to 95.5
12/16 U.K. Comp. PMI Expectations for a gain from 49.3 to 49.5
12/17 U.K. Jobs Report Expectations for the UR to rise from 3.8% to 3.9%

Asia/Japan, and New Zealand 

12/17 Japan Trade Balance Expectations for a smaller trade deficit
12/19 Japan National CPI Expectations for a gain from 0.2% to 0.5% YoY
12/18 Aussie Jobs Report Expectations for a gain of 15k; UR remains at 5.3%
12/17 New Zealand Trade Balance Expectations for a smaller trade deficit


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