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Sterling and Yuan Resilience, While Rate Differentials Aid Dollar?

Summary:
The US dollar rose against nearly all the major currencies last week.  The yen was the sole exception.  Risk appetites were shaken by repeated cycles of hope and disappointment over the outlook for additional fiscal support in the US and Europe's brinkmanship in the UK-EU trade talks.  For the most part, the greenback did not break above key chart points, though the euro flirted with support a little below .17 and made a marginal new low for the month. Of the majors, the Australian dollar suffered more than a 2% decline following the strongest signals to date that that Reserve Bank of Australia will do more to support the economy. However, it is still a question of precisely what it will do. The prospect of the RBA buying longer-term maturities helped push Australia's 10-year bond yield

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Sterling and Yuan Resilience, While Rate Differentials Aid Dollar?

The US dollar rose against nearly all the major currencies last week.  The yen was the sole exception.  Risk appetites were shaken by repeated cycles of hope and disappointment over the outlook for additional fiscal support in the US and Europe's brinkmanship in the UK-EU trade talks.  For the most part, the greenback did not break above key chart points, though the euro flirted with support a little below $1.17 and made a marginal new low for the month. 

Of the majors, the Australian dollar suffered more than a 2% decline following the strongest signals to date that that Reserve Bank of Australia will do more to support the economy. However, it is still a question of precisely what it will do. The prospect of the RBA buying longer-term maturities helped push Australia's 10-year bond yield below the US benchmark for the first time in six months.  More broadly, interest rate differentials have widened in the dollar's favor against Europe.

Dollar Index:  A two-week, 1.7% slide was halted with about a 0.6% gain last week.  The bounce stalled near 93.90, roughly the (50%) retracement of the decline since the September 25 high near 94.75.  The next retracement (61.8%) is a little above 94.05 before last month's high comes into view.  The MACDs have hardly moved lower in the first half of October, but the Slow Stochastics have completely unwound and have begun leveling off.  The price action at the start of last week reinforced support around 93.00.  Initially, the 93.50 area may offer support.  

Euro:  The push above $1.18 was a false break, and the subsequent decline saw is slip below$1.1700 to fray support.  It stabilized ahead of the weekend, and the October 15 range of roughly $1.1690 and $1.1760 will likely point the near direction.  A break would signal a test on the lower end of the three-month range near $1.1600.  The lack of a convincing bounce ahead of the weekend and the widening of interest rate differentials suggest the path of least resistance may be lower.  The momentum indicators are diverging.  The Slow Stochastic is rolling over while the MACD is still in the trough.   As the risk that no trade agreement between the EU and UK is widely recognized as more likely, the euro may be more resilient against sterling. 

Japanese Yen:  The dollar was repulsed from the attempt to build a foothold above JPY106 and was sold to the lower end of the recent range near JPY105.  It does not appear to be going anywhere quickly and seems hemmed into the range.  Additional support is seen near JPY104.80.  The dollar has not traded below it since September 22.  In the broader picture, the greenback has been in a JPY104-JPY107 range for three-months. The MACD is going sideways near the upper end of the range since the end of H1.  The Slow Stochastic is in the middle of its range but trending down.  

British Pound:  In a sawtooth pattern, sterling alternating last week between advances and declines and ultimately finished about a cent lower on the week.  Given the uncertainty surrounding the trade talks' status, new social restrictions being resisted by some local governments, and the credit downgrade ahead of the weekend, sterling seemed resilient, finishing in the middle third of the week's $1.2865-$1.3085 approximate range.  The Slow Stochastic is trending lower while the MACD moved sideways near neutral.  Sterling has carved a little shelf around $1.2840 ahead of the month's low closer to $1.2820.  Initial resistance is likely now in the $1.2980-$1.3000.  

Canadian Dollar:  A good bid for the greenback was found near CAD1.31, and that helped spur a short-covering bounce to CAD1.3260.  It is the halfway point of the retreat that began on September 30 from around CAD1.3420.  The US dollar's gains came on the back of a sell-off in US equities, and as that stabilized, the greenback lost its bid.  It finished the week by support at CAD1.3160. The Slow Stochastic thought is poised to turn higher, and MACD is flat near neutral.  

Australian Dollar:  The RBA's policy signals and the broader US dollar recovery sent the Aussie to almost $0.7050v after starting the week above $0.7200.  It was unable to distance itself from the lows, which warns that stale longs and overhead supply.  A move above $0.7100 would help stabilize the tone.  The bulls may not be aggressive until the RBA meeting on November 2.  The Aussie has remained above $0.7000 for three months.  The MACD is near six-month lows but crossing lower, while the Slow Stochastic just turned down.  The lower Bollinger Band begins the new week around $0.7025.  

Mexican Peso: After rising for the first couple of sessions last week, the dollar gave it all back plus some against the Mexican peso in a three-day decline in the second half of the week.  In fact, new lows for a month were recorded ahead of the weekend, a little above MXN21.1150.  The next target is the six-month low set in September around MXN20.85, just above the lower Bollinger Band (~MXN20.79).  The MACD and Slow Stochastic are moving lower, but the latter is overextended and leveling out.  While we have been highlighting the peso's attractiveness on interest rate grounds, it has also been attracting momentum traders on the crosses against other Latam currencies or major currencies, like the euro.  

Chinese Yuan: The week following the PBOC's decision to reduce to zero the margin requirement for forward foreign exchange positions, the yuan closed virtually unchanged (-0.04%).  The yuan did initially weaken, but signals sent from the daily reference rate setting seemed to suggest a mild signal as we anticipated.  The dollar slipped below CNY6.70 in late dealings.  Chinese policymakers' intentions are difficult to decipher, but we suspect that the key consideration is its strategic efforts to attract foreign portfolio capital.  It is the way the yuan will be truly internationalized instead of what had been, to a large extent, the Sino-ification of Hong Kong. Given the Chinese economy's strength now and projected for next year, its relative high nominal and real rates, if foreign asset managers do not see currency appreciation, it would likely impact investment calculations and decisions.  It is their disappointment, not Washington's, that may be the key motivator.  

Gold:  The precious metal peaked on August 7, near $2075.  It fell to a low of around $1849 last month. The recovery faltered at the (38.2%) retracement by $1935, leaving gold to continue to straddle $1900.  The MACD is near its trough while the Slow Stochastic is about to turn down.  A move out of the $1870-$1940 area would be important from a technical perspective.   The rolling 30-day correlation of the return (percentage change) of gold and the S&P 500 is at five-month highs (~0.5), illustrating how it has been acting more as a risk-on asset than a safe haven.  

Oil:  December light sweet crude oil futures finished little changed on the week a bit above $41 a barrel, its 200-day moving average. It is chopping in a roughly $39.50-$41.75 range. The surge of Covid, questions about the strength of demand in the US and Europe, added to the new supply from Libya and OPEC+ intention to go forward with plans to boost output, maybe capping the upside.  On the other hand, Chinese and Indian refiners have reported boosted operations.  The momentum indicators are also consistent with overhead resistance.  

US Rates:  After rising a dozen basis points in the previous two weeks, the 10-year yield fell by about four basis points to 0.74%.  The market sold into the bond rally that had pushed yields to an eight-day low below 0.69%.  That said, the momentum indicators of the December note futures contract favor the new gains. The 2-10-year yield curve flattened by a few basis points but remains firm near 60 bp.  The outperformance of European and Australian bonds means that the rate differentials have been moving in the US favor.  It is worth monitoring in the period ahead.  The lack of a near-term stimulus barely impacted the Treasury market.  Next week, the Treasury re-open the 20-year bond to sell another $22 bln.  It will also sell $17 bln of five-year TIPS.  

S&P 500:  As we anticipated, the S&P 500 gapped higher to start the week.  It was the third successive higher gap opening, which is a sign of an overbought market intuitively and from the perspective of gap theory.  Monday's high was indeed the week's high, and the roughly 2.5% decline from Wednesday's high (~3528) to Thursday's low (~3441) filled the two of the gaps, leaving the third (~3426.2-3428.2) unfilled.  At the lows, it completed a (50%) retracement of this month's rally.  It reversed higher on Thursday and gapped higher ahead of the weekend.  It was closed in later turnover.   The MACD is still moving higher though it is leveled out, and the Slow Stochastic has crossed over but has not been a particularly bearish sign in recent months.  After falling four weeks last month (after a five-week rally), the S&P gained about 0.65% to close higher for the third consecutive week. 



Disclaimer

Marc Chandler
He has been covering the global capital markets in one fashion or another for more than 30 years, working at economic consulting firms and global investment banks. After 14 years as the global head of currency strategy for Brown Brothers Harriman, Chandler joined Bannockburn Global Forex, as a managing partner and chief markets strategist as of October 1, 2018.

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