Morning Commentary: He Says, Xi Says for the Umpteenth Time

Foreign Exchange - Morning Commentary
He Says, Xi Says for the Umpteenth Time
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
US-China tensions have reemerged and become a key market focus.  Market reaction, to the steadily increasing hawkish rhetoric from both sides has been relatively measured thus far.  CNY volatility has ticked up some and USDCNY did sell off but has since recovered those losses. 

This muted market reaction aside, the risk of renewed tensions does represent upside USDCNY risks.  The global economy remains fragile, leaving all economies, including the US economy, in a weakened position and less able to absorb fresh US-China tensions.  However, US elections are approaching and anti-China sentiment is rising while Trump’s polling numbers are slipping in some key battleground states.  Currently, the yuan is trading in its tariff neutral range.  Should fresh tariffs be imposed or if the threat of tariffs becomes a high probability as elections approach, expect the yuan to weaken.

The hope remains that the pain experienced by both sides due to the 2019 tariff conflict helps cooler heads prevail.  Clearly, the addition of further disruptive policies (tariff hikes etc.) compounding the economic effects of ongoing virus related lockdowns is not beneficial to anyone.  While anti-China sentiment is rising in the US, another equity market collapse during an election year is a substantial disincentive.  On the Chinese side, the PBoC strives for currency stability, making the bar to deviate from the spirit and the letter of the currency clause agreed to in the Phase 1 deal high.  Moreover, FX moves that exacerbate outflow pressures during a period of weak growth is counter to what China is trying to achieve. 

But despite all this, the lesson from 2019 is that economic logic is not the best guide when projecting the path of US-China relations.  This leaves markets in the unfortunate position of having to live with, and potentially price in risk premium, to account for US-China escalation in the run-up to this year’s US election. 
HERE ARE THE KEY NEWS STORIES FROM OVERNIGHT:
  • Virus and vaccine news continues to drive the markets.  Yesterday, equities sold off late in the session as the early test results from Moderna Inc. got a reality check as some experts cited a lack of data in the findings.  Today, Inovio is in the headlines as its stock surged after its vaccine showed positive results in hamsters and guinea pigs.  Aldeyra also advanced on positive COVID-19 drug developments.
  • Conversely, doctors in China are seeing signs that the virus could be changing as it is manifesting itself differently with patients taking longer to show symptoms.  These developments make it harder to stop a second wave of infections.
  • US-China tension remain high.  This time the issue is Taiwan as Secretary of State Mike Pompeo was denounced by China for referring to Taiwan's leader Tsai Ing-wen as "president."  China’s Ministry of Foreign Affairs said Pompeo’s statement congratulating Tsai on a second term violated the one China policy. 
  • FOMC minutes will be released today and could reinforce the group’s call for more stimulus as well as its opposition against negative rates. 
  • Austria, the Netherlands, Denmark and Sweden are expected to announce their versions of a virus package to counter the proposal put forward by France and Germany.  This new proposal is expected to focus more on loans than grants. 
  • The Bank of Thailand cut rates by 25 bps to 0.50% as expected although the vote was 4-3.  The previous cut was by a unanimous vote.
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