Weekly analysis

USDJPY is champing at the bit of local resistance above 110.00 as EU and US yields have suddenly come alive here ahead of the Jackson Hole speech from Fed Chair Powell . Entirely unsure whether that speech will have major implications for the US treasury market in the near term, but if yields do pop back higher, we will likely suddenly have a different setup for USDJPY, which could go on to challenge its cycle top in the event the US 10-year treasury benchmark, for example, goes on to pop above the big 1.50% area (1.35% currently). The higher yield threat will need to fade to see the pair challenging back toward that 109.00 area that didn’t sustain the break earlier this month. The setup here echoes the triangulation in the price action back in Nov-Jan before US yields staged a major revival. Note the Ichimoku cloud levels in play here as well.  

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Major setbacks in corn and wheat helped drive the grains sector sharply lower just one week after weaker-than-expected U.S. acreage and stock reports helped drive the sector higher. Overall, the year-long surge in global food prices paused in June after the UN FAO reported the first drop in 13 months in its Global Food Price Index. It dropped by 2.5% in June with the year-on-year surge easing to a still elevated 34% from 40% in May. The decline was driven by a near 10% slump in edible oils, such as palm, soy and sunflower oils, while the mentioned fall in corn and maize also supported the decline.

Corn was the biggest loser this past week in response to improved weather conditions across the U.S. Midwest and equally important on speculation that China’s import demand has peaked with local corn futures trading near the lowest levels this year. This is in response to rising Chinese production and expectations that demand for the grain towards animal feed will decline as loss-making hog farmers have stopped expanding herds. A recent USDA briefing from Beijing estimated the country’s imports in 2021-22 will reach 20 million tons, well below the department’s official 26-million-ton forecast. 

Brent oil dropped to the lower end of the $65 to $75 range, that we could see prevail for the remainder of the year. We see reduced risk of a slump below this range on expectations OPEC and friends may step in and announce measures to support the market, potentially by postponing agreed production hikes until a clearer demand picture emerges. Brent oil has been on the defensive this month since the number of Covid-19 cases in China and the U.S. began rising, thereby clouding the demand outlook in the world’s biggest importer and consumer of Brent. 

Adding to current price risks, apart from demand concerns and the general level of risk adversity sending the dollar higher, was weekly data from the EIA showing US drillers, in response to the earlier price surge, are pumping the most crude in a year. In addition to an expected seasonal slowdown in demand, perhaps strengthened by the Covid-19 surge, and the market is suddenly looking less tight than what was expected just a few weeks ago. 

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The review of the ECB’s monetary policy strategy was announced in January 2020 by its policy-making Governing Council and the results were due to be published by the end of last year. Since then the review has been largely ignored by the markets, which have concentrated on the coronavirus pandemic, the ensuing global economic downturn, and more recently, the recovery from that slump and the prospect of rising inflation.

The ECB has already made clear that it has no intention of tightening policy near term, in line with other central banks that have described inflation as likely to be transient. The results of the review will likely reinforce that message by stating more formally that the ECB will tolerate inflation that it regards as temporary, and the Euro will likely ease further ahead of its publication as investors begin to focus on what it might say.
One outcome of the review could be a revised inflation target, with the ECB moving from the current definition of price stability as “a year-on-year increase in the Harmonised Index of Consumer Prices (HICP) for the Euro area of below 2%” The Governing Council clarified in 2003 that in the pursuit of price stability it aims to maintain inflation rates below, but close to, 2% over the medium term.  

This year that could change to a symmetric medium-term inflation target of 2%, with the ECB tolerating inflation above or below that level. In the current situation that would mean continuing low interest rates, bond-buying and quantitative easing even if inflation rises well above 2% so as not to throttle the recovery in its infancy.
Market pricing reflects expectations so Euro weakness could well precede publication of the review. That indicates traders will need to be on the lookout for hints about its contents from Governing Council members and in particular from ECB President Christine Lagarde. She dropped one such hint in mid-June, when she suggested to Politico. 

The USD/CAD price analysis suggests further gains as the fundamental and technical pictures indicate an uptrend.

The USD/CAD soared to fresh daily highs near 1.2565 on Monday. The recent upsurge stemmed from the rise in coronavirus infection in Japan and downbeat Chinese important data. The weekly forecast for the USD/CAD pair is bullish. The contrast in the labor results of Canada and the United States drove the rise of the USD/CAD pair, achieving a weekly close above the 1.2580.

On the part of the Fed, signs of a possible reduction of asset purchase program are beginning to be seen after some important figures made statements related to this. Like the case of Fed Vice Chairman Richard Clarida, who commented that there could certainly be announcements at the end of the year about a gradual reduction.

On the Canadian side, unemployment statistics improved but at a slower than the estimated rate. The unemployment rate decreased 0.3% to 7.5% compared to 7.8% in June. However, the number of jobs created during the last month was 94,000, far from the estimate of analysts who predicted 177,500 new jobs for July.

Asia-Pacific markets may be set to experience a volatile week, with several potentially hard-hitting economic events on tap in the days ahead. That puts the risk-sensitive Australian and New Zealand Dollars in focus. Both weakened against the US Dollar last week even though the broad-based DXY index moved lower, which highlights the region's perceived risks.
Traders will be watching daily case counts and deaths with a keen eye. Domestically, the island nation has seen only two new cases over the last 48 hours, according to the Ministry of Health. Policymakers’ defensive stance on border travel will likely remain in place.
Later this week, the Reserve Bank of New Zealand (RBNZ) will release its interest rate decision. The consensus expectation sees the central bank holding the Official Cash Rate (OCR) at 0.25%. 

Overnight index swaps show markets are pricing in a 73% chance of a hike at the November meeting. That is up from 48% one week ago. Second-quarter inflation data will follow the policy meeting on the very next day. Markets expect the consumer price index (CPI) to rise 2.7% y/y, up from 1.5% in Q1.
The New Zealand Dollar is off to an upbeat start against the Greenback, with NZD/USD up 0.15% to start the week. The currency pair is testing a level of resistance turned support along with a descending trendline. Some confluent resistance from the downward-sloping 20-day Simple Moving Average (SMA) will need to be cleared before a push higher. The MACD oscillator shows a bullish bias as its MACD line tracks above the signal line. 

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Pockets of strength remained with agriculture commodities such as sugar and wheat receiving a boost from what so far has been a very volatile weather season across some of the key growing regions of the world. Gas prices trading at a 2 ½-year high in the US and at record levels in Europe was another area that continued to exhibit strength amid tight supply at a time of strong demand, both raising concerns that stockpiles may not build sufficiently ahead of the peak winter demand period.

Natural gas prices across the world remain bid on a combination of hot weather driving increased demand for cooling and rising demand from industry as the global economy bounces back from the pandemic. In the US, the price of Henry Hub is trading above $4/MMBtu, the highest price for this time of year in at least ten years on a combination of rising domestic demand and rising LNG exports. This comes at a time when production has struggled to pick up, especially due to the slow recovery in shale oil production, from which gas is a byproduct.

Much worse is the situation Europe where prices have reached record levels. An unexplained reduction in flows from Russia, combined with rising competition from Asia for LNG shipments, has made it harder to refill already-depleted storage sites ahead of the coming winter. These developments have led to rising demand for coal, thereby forcing industrial users and utilities to buy more pollution permits, the price of which are already trading at record prices. All in all, these developments have led to surging electricity prices which eventually will be forced upon consumers across the continent, thereby causing a major headache for governments and potentially challenging the political will to decarbonize the economy at the agreed rapid pace.

EURUSD is fairly representative of the action across USD pairs as we watch whether this extension lower below the local 1.1848 pivot holds into the weekend. A solid rally back above is the first inkling that this late USD rally faces neutralization. And the kind of support from US treasury yields and rising US real yields that was in place back into the significant end-of-March low of 1.1704 are largely absent this time, with only support for the USD from the shift in Fed expectations, a shift that has faded more than a bit on today’s mixed US jobs report. A solid close above 1.1900 in the coming session or two could set the stage for the sense that the downside risk here has been avoided for now, likely reflected in other USD pairs as well in that event.

May have simply witnessed a significant position squaring by USD shorts as so much energy has come out of the inflation narrative recently, with the USD wrapped up in a reflexive way in that narrative as one of the leaders in weakening via negative real rates.
Jobs report doesn’t do anything to set the world on fire in terms of raising Fed expectations or treasury yields, and given the pivotal levels we have traded near lately in a number of USD pairs, may offer a fresh spot for new USD bearish positions. 

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The Bank of England meets on Thursday, and though COVID cases in the country appear to have peaked for this wave , the central bank is unlikely to make any immediate changes to policy. That said, there have been some hawkish sentiments emerging from the Monetary Policy Committee in recent weeks following a jump in inflation to 2.5% in June, the highest reading in three years and above the central bank’s 2.0% target. As such, traders will be watching to see if the BOE raises its inflation forecasts moving forward, hinting that the price pressures may be less transitory than expected. Finally it’s worth noting that the UK furlough scheme winds down at the end of September, so it will be interesting to see if the central bank acknowledges the potential for the labor market to weaken in the coming months. 

GBPUSD has pulled back sharply from its near-death experience below the prior major lows around 1.3670 and is now pushing up close to . Given its tight correlation with the risk-off, risk-back-on episode starting around mid-month in July, the 1.4000 level could prove a tough to crack if the sense of foreboding, turns into a significant rout in risk sentiment, although there are other supports for this move, including the generally widening spread in short rates in the UK’s favour in recent months, which has the spread near the cycle highs and the highest level since….2015.

Australia May employment data delivered a big beat on expectations, the headline unemployment rate fell to 5.1% even as participation increased, rounding out the 4th largest quarterly fall in unemployment on record. Australian employment is now 1% above its pre-pandemic peak.

Notably the underemployment rate fell to 7.4% which is the lowest level in 7 years. Underemployment (those employed but wanting to and available to work more hours), another contributor to labour market slack, typically accounts for most of the weakness in wage growth, rather than unemployment itself. Numerous recent research concludes that in recent decades underemployment has had a stronger relationship with wage growth than unemployment.

Against this backdrop the spotlight remains on the RBA’s ongoing challenge to meet mandated price targets, achieving their goal of a tighter labour market, wages growth and hence inflation. And alongside this their ability to wind back accommodative policy settings.

Governor Lowe has stressed the RBA’s more reactive policy stance/inflation-targeting regime now requires actual, not forecast, inflation to be within the 2-3% target band before raising rates. This likely requires wages growth in the order of 3%, and a headline unemployment rate tracking 4% and probably below. The last time unemployment was close to 4% was back in August 2008. At present, the economy is far from full employment or full capacity, significant labour market slack remains, promoting weakness in wages and demand and limiting any underlying inflationary pressures. Despite those end goals remaining a long way off the economy continues to track a stronger economic trajectory than forecast.

The continued recovery in the labour market raises the probability that the RBA are perhaps too pessimistic at this stage and that rates will lift off sooner than expected. However, the decline in labour market slack required to promote sustained wages growth in the order of 3% remains an unknown. Although in combination with a continued decline in underemployment and emergent skills shortages with closed international borders cutting off migrant workers, there is evidence that wages are turning a corner and could soon accelerate. Lowe citing today that there could be more upward pressure on wages if border remains closed for another year.

Were the RBA to extend, this would signal that the bank does not expect inflation to be sustainably back between their 2-3% target until late 2024, and correspondingly lift rates until late 2024 and beyond. 

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