XE Market Analysis: Europe - Apr 21, 2021

The dollar has found a footing after recent pronounced declines. The narrow trade-weighted DXY USD index has tested yesterday's high at 91.28, having lifted out of yesterday's seven-week low at 90.86. Safe haven demand for dollars has been afoot amid the risk-off sentiment that has been coursing through global markets on news of spiking Covid cases in various countries across the world, including in Canada, India to Japan. This has allowed the dollar to break free from its recent correlation with abating Treasury yields. Gold prices lifted to near seven-week highs, reflecting safe haven demand, while the AUD-JPY cross, which can be viewed as a currency market barometer of investor risk appetite, has hit a one-week low following a near 2% tumble from the high seen yesterday. Oil prices have remained heavy, although above the lows seen following yesterday's near 3% plunge. The Canadian dollar has settled today after plunging, along with other oil correlating currencies, yesterday. The MSCI Asia-Pacific equity index has fallen by over 1% today. The main China indices managed to rebound from early losses following positive earnings from the healthcare and banking sectors, while Japan's Nikkei 225 underperformed with a closing loss of just over 2% amid news that Tokyo and Osaka are heading into lockdown due to a new wave of Covid infections. Airline stocks have been hard hit in concert with new travel restrictions being imposed. Canada and the United States, for instance, have extended a border closure for non-essential travellers. The tsunami of new Covid cases in India, which is still an understatement of the true level of cases given the limitations on testing capacity in the country, remains a particular concern, though on a brighter note, news that the EU has procured a further 100 mln doses of the Pfizer vaccine is the latest sign that continental Europe may be past the point of peak pessimism on pandemic front.

[EUR, USD]
EUR-USD has pulled back towards 1.200 after yesterday pegging a fresh seven-week high at 1.2080. At the high, the pair was showing a gain of over 3% from the lows seen in late March. Much of the rise was powered by the softening in the dollar, which was concomitant with the decline in longer-dated Treasury yields. The Fed's evident success in turning around the inflation risk narrative, by stressing that the economy was a long way from full capacity, paid dividends in terms of taming bond vigilantes, which has had the associated consequence of taking the wind out of the sails of dollar bulls. As we have noted before, the Treasury market was perhaps ripe for a rebound after putting in its worst quarterly performance in 34 years in Q1. But, with the U.S. economy building up a head of steam on the back of the Covid vaccine rollout (which has so far been much more extensive than in the Eurozone, although the latter will be catching up in the months ahead), alongside the release of pent-up consumer demand and outsized fiscal stimulus, with a central bank that remains steadfastly in uber-accommodative mode, the risks to inflation are to the upside. We have been noting that the upward trajectory for U.S. price increases into 2021 extends beyond the "base effects" that are clearly lifting the y/y measures. In April we expect CPI gains of 0.2% for both the headline and core. The y/y CPI gain should surge to 3.6% from today's 2.6%, while the y/y core price gain should climb to 2.2% from today's 1.6%. We expect y/y CPI gains to set peaks in May of around 3.8% for the headline and around 2.5% for the core. The recent weakness in the dollar will only add upside risk to inflation, which in turn should help set the stage for a rebound in the U.S. currency. In sum, a rising bias in longer-dated U.S. yields is likely to re-establish as markets return to pricing in contingency risk that the Fed may be forced to tighten much sooner than the 2024 start point for tightening that it has been signalling. As for the euro, peak pessimism about the Covid situation looks to have passed, and Eurozone growth and inflation are set to rise, but lag the U.S. We thereby continue to anticipate that the prevailing bias of EUR-USD will shift back to the downside before long.

[USD, JPY]
USD-JPY printed a seven-week low at 107.88 during Tokyo trading, when risk aversion was coursing through Asian markets. Yen crosses also decline, with the Japanese currency finding a safe haven bid. The AUD-JPY cross, which can be viewed as a currency market barometer of investor risk appetite, hit a one-week low following a near 2% tumble from the high seen yesterday. The MSCI Asia-Pacific equity index fell by over 1% today. The main China indices managed to rebound from early losses following positive earnings from the healthcare and banking sectors, while Japan's Nikkei 225 underperformed with a closing loss of just over 2% amid news that Tokyo and Osaka are heading into lockdown due to a new wave of Covid infections. The tsunami of new Covid cases in India, which is still an understatement of the true level of cases given the limitations on testing capacity in the country, remains a particular concern.

[GBP, USD]
The pound has been trading mixed today, falling against the dollar while firming versus the euro. The UK currency had underperformed most of its peers yesterday amid a risk-off sentiment in global markets. Sterling has an established pandemic-era proclivity to underperform during phases of pronounced risk aversion, the UK being an open economy with a large balance of payments deficit. Market participants were also factoring in news that there have been over 100 detected cases of SARS-Cov2 variant B.1.617, aka the Indian variant, in the UK, which has been responsible for the tsunami wave of new Covid cases in India. This variant has two 'escape mutations' that make it able to dodge antibodies and potentially make existing vaccines obsolete. Another issue is the re-emergence of the Scottish independence matter, which has reared up into the UK's local elections in early May. Re-emerging troubles in Northern Ireland are also a concern. On the data front, UK labour market data, released yesterday, were mixed. March inflation data, released earlier today, showed headline CPI rising to a still-benign 0.7% y/y rate, as expected, after dipping to just 0.4% y/y in the month prior. March retail sales, consumer confidence and the preliminary April PMI surveys are due on Friday. A stellar retail sales report can be expected, due to the reopening economy and the unleashing of consumers' lockdown savings. The composite PMI is expected to come in on the strong side, with the headline seen rising to 58.1, which would mark a third consecutive month of increasing activity and the best reading since last August.

[USD, CHF]
Policymakers at the SNB retain a chronic disquietude about the franc's value. Unlike most central banks, the SNB explicitly incorporates the franc into monetary policy to ward off speculative purchases of the currency, which would impart deflationary forces (via cheaper imports) with the consequential impact of an unwelcome tightening in real interest rates. The central bank repeated at its latest quarterly monetary policy review that the franc remains "highly valued" and said it is ready to intervene directly in the foreign exchange market.

[USD, CAD]
USD-CAD has settled in the upper 1.2500s after yesterday surging to an eight-day peak at 1.2624 from sub-1.2500 levels. That was the biggest one-day rise the pair has seen in about two months, driven in part by a pick in safe have demand for the greenback, alongside Canadian dollar underperformance, which like other oil-correlating currencies came under pressure as oil prices plunged by nearly 3% yesterday. News of spiking Covid cases in various countries across the world, including in Canada, India to Japan, impacted oil prices. Tokyo and Osaka are heading into lockdown due to a new wave of Covid infections, while Canada and the United States have extended a border closure for non-essential travellers. The tsunami of new Covid cases in India, which is still an understatement of the true level of cases given the limitations on testing capacity in the country, remains a particular concern.