Morning Commentary: Crash Landing

Foreign Exchange - Morning Commentary
Crash Landing
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
The latest round of Brexit talks have kicked off this week with both sides still very far apart.  Previous GBPUSD price action reflected a market view that looked through negotiating rhetoric and risks for a hard Brexit, but with time running out on the UK’s transition period, this could be changing. 

The most recent volley out of the UK came from Chief negotiator David Frost who said that Britain isn’t scared to walk away without a deal.  Further, Foreign Secretary Dominic Raab indicated that the UK was unwilling to accept the EU’s position on fisheries and state aid, two issues that have long been contentious.  In reality, these aren’t new developments but the GBP is, by far, the G10’s worst performing currency since Friday’s close indicating a possible change in how the markets are viewing the negotiations. 

Adding to the market uncertainty are reports that the UK government plans to introduce legislation—possibly this Wednesday--that would “eliminate the legal force” of some key sections of the withdrawal pact.  As expected, EU officials issued stern warnings against this bill.  For the UK’s part, it continues to maintain that the draft law is fully intended to be a fallback option should talks fail to yield progress.  Even if this was true, the risk is that introducing this bill will further poison what has already been a difficult negotiating process.  To this point, pessimism on the UK-EU’s ability to make a material trade deal breakthrough on trade talks this week is illustrated by Brexit not even being on the agenda, as of now, for the September 24 EU summit. 

Technically, the Brexit transition period runs through the end of 2020 but in reality, both sides are indicating a true deal deadline of October/early November to allow for ratification and implementation of any deal ahead of the transition period expiry.  Depending on your point of view, markets are still expecting a deal or underestimating the risks of a no deal Brexit.  Either way, with negotiations entering the teeth of it all, expect Brexit news to gain increasing influence on GBP price action after previously being overshadowed by other factors such as COVID-19.
HERE ARE THE KEY NEWS STORIES FROM OVERNIGHT:
  • US-China tensions ramped up again with President Trump vowing to curb economic ties with China and punish American companies that create jobs overseas as well as prohibit companies that do business with China from winning Federal contracts.  It is reported that the US is now targeting cotton and may take action to ban products that use Chinese cotton, threatening the supply chain for many clothing brands.  While we are still far from any tangible actions, the risk remains for anti-China rhetoric, from both Biden and Trump, to continue to ramp up as we move closer to the election.
  • The US Senate returns today but the chances of a stimulus package remains remote.  Economic data supports the view that the US economy is losing momentum as policy tailwinds fade and virus numbers remain elevated, underscoring the need for further action.
  • Japanese capital flow data showed continued Japanese interest in US and Australian bonds but a drop in European bond demand.  With nearly all major bond markets holding a yield advantage over Japanese bonds, expect continued investment outflows.  Regarding the race to succeed PM Abe, Suga confirmed his intention to continue Abe’s monetary and fiscal policies.
  • Australia-China relations continue to deteriorate with two Australian journalists being detained by Chinese authorities before being allowed to leave the country.  This appears to be retaliation for a Chinese born journalist being detained by Australia.
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