The past two weeks saw a sharp rise in both polling and betting odds of a Blue Wave sweep that should reduce the probability and severity of any contested election scenario. In response to this, markets have responded by selling off the U.S. dollar (USD), which is consistent with what many analysts projected under a Blue Wave.
However, the election is not happening tomorrow but rather over three weeks from now. As recent events have shown, a lot can change in just a week. A widening Biden lead in swing states does shift the base case more toward a benign ending, but the hurdle to completely eliminate some level of contestation and uncertainty is high. Keep in mind that a delayed/contested election is not a single binary event but rather a spectrum of scenarios ranging from a simple delayed confirmation to numerous legal challenges and a process that fails to deliver a decisive enough outcome to garner broad acceptance. This argues for continued hedging of election risks.
The reality remains that the types of market moving events seen in recent weeks, both anticipated (presidential debate) and surprise (Trump’s diagnosis) could persist until Election Day. At a minimum Trump’s health situation remains unresolved and its political implications have yet to be fully realized.
Regarding polling, Biden’s current average national polling margin appears to put him in the strongest position of any candidate at this point in the presidential race since 2004. Biden’s margin also appears to be widening at the swing state level and justifies some de-pricing of contested election risk. Nevertheless, the ability for states to quickly and accurately tally votes and avoid a delay is still unknown. So while recent events have raised the possibility of a Blue Wave, they do not fully eliminate election uncertainty. Rather Biden’s rise in the polls appears to have shifted risks from an aggressive legal challenge/extreme uncertainty scenario to one where the outcome favors Biden but still risks delays in the final confirmation.
That being said, this past week has illustrated how quick changes in election probabilities and voter intentions can happen. Back in 2016, Trump gained 4 points during the second half of October. Another meaningful swing like that could narrow the margins enough for the market to reprice in the more extreme contested election outcomes. | |
| Topside momentum for EURUSD appears to be building again after taking a hit during the second half of September. Blockbuster Eurozone retail sales numbers, renewed hopes for fiscal stimulus in the U.S. and a fall in betting odds of a contested presidential election have all reduced USD demand. Given this, risks to the European outlook remain. COVID-19 infection numbers continue to rise and this has led to renewed lockdown restrictions. Further, difficulties around finalizing the EU Recovery Fund raises the risk of a delay in implementing needed aid, and Brexit remains unresolved. Finally there is the U.S. election. While polls show Biden’s lead widening, history shows that sharp swings in voter intent can happen over a short period of time. Should Trump gain ground in the polls like he did in October 2016, expect USD demand to return. | |
| Pound volatility was always expected to pick up the closer we got to the business end of Brexit talks, but even against this standard the recent intraday volatility has been notable. Economic data out at the end of last week was significantly weaker than expected. Looking forward, the U.K. economy is at risk of a sharp deceleration should government support programs be allowed to expire. Given this, near-term GBP movement will be all about Brexit. On the margin, formal negotiation achieved some progress on technical aspects but overall talks remain stuck in place. Given this, the markets have taken some comfort in the fact that more talks are scheduled between now and Oct. 15, the de facto deadline if the U.K.’s ultimatum is believed. Ultimately, much is unknown other than the expectation for more volatility. | |
| Broadly speaking, USDJPY continues to range trade despite headlines surrounding U.S. elections and mixed signals on U.S. fiscal stimulus hopes. Given this, the risk for higher volatility into and around the U.S. election still supports being long safe haven currencies such as the yen. Further supporting the bias for appreciation is the pullback in outbound investment flows relative to the pace set at the beginning of the year. All else equal, this neutralized what was an idiosyncratic source of yen weakness. | |
| The CAD has outperformed its G10 peers since September’s Fed meeting. This was driven by a stronger than expected economic bounce and rising commodity prices even as Bank of Canada Governor Tiff Macklem said negative rates remain an option. Regarding the economy, Canada’s most recent jobs report delivered a strong beat as the country added 378.3K jobs with ~88% of these jobs being full-time positions. Absent a major data disappointment, the CAD should remain driven by the global risk backdrop, oil prices and USD moves. | |
| Headlines around U.S.-China tension continue to come out but ultimately the markets are viewing the recent actions/rhetoric from both sides as largely symbolic. A strong balance of payment position and the market consensus for USD weakness form the base for a stronger CNY. Capital inflows, especially on the bond side, have been strong and are expected to be persistent as the global search of yield continues. Longer term, geopolitics remain a concern but for now expect the yuan to be supported. | |
| The Reserve Bank of Australia held its policy rate and its target yield for its 3-year bond unchanged but the tone of the statement was dovish. The bank confirmed that it would not increase its policy rate until progress is made toward full employment and it is confident that inflation is sustainably in its target band. The bank’s statement also noted that the bank “continues to consider how additional monetary easing could support jobs as the economy opens up further.” This makes a rate cut from 0.25% to 0.10% in November a very likely scenario. On a broader level, the risk is for the Aussie dollar to remain volatile given its correlation to risk markets and expectations for the currency to remain glued to equities. While market risk sentiment has improved with polls showing Biden expanding his lead, swings in voter sentiment can happen swiftly. | |
MAJOR CENTRAL BANK ACTIVITY THIS WEEK |
| 10/15-16 | EU Council Meeting | EU leaders will meet for two days with the focus expected to be on Brexit | | | | | |
KEY MARKET MOVING ECONOMIC RELEASES |
| 10/13 | U.S. CPI MoM | Expectations for a 0.2% increase | | | 10/15 | U.S. Initial Jobless Claims | Expectations for a 823K print | | | 10/16 | U.S. Retail Sales MoM | Expectations for a 0.8% increase | | | 10/16 | U.S. Industrial Production MoM | Expectations for a 0.6% increase | | | | | |
| 10/14 | EZ Industrial Production | Expectations for a 0.7% increase | | | 10/12 | U.K. Unemployment Rate | Expectations for a 0.2% decline to 4.3% from 4.1% | | | 10/13 | German ZEW Expectations and Current Situation Survey | Expectations for a 73.0 and -60.0 print, respectively | | | | | |
Asia/Japan, and New Zealand |
| 10/12 | Chinese Exports and Imports YoY | Expectations for a 10.0 and 0.1% increase, respectively | | | 10/14 | Australian Jobs Report | Expectations for a loss of 35.0K jobs | | | | | |
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