Founder & Chief Market Strategist - SAV Markets, SAV Markets

Shyam Devani

Founder & Chief Market Strategist - SAV Markets

Cross Asset Strategy

Developments over the past 24 hours have meant that US 10Y breakeven is now at its highest for more than a month. Importantly the level highlighted yesterday at 2.38% has given way. The setup now argues for a move to 2.55% - close to the trend highs seen in MayUnless nominal yields rise by more than 15bps, real yields are either going to stay unchanged at low levels or move even lower into negative territory, as they have started to do again todayAt the same time developments in China’s equity markets remain bearish which is now beginning to feed through to the currency.With Chinese and European authorities both on the dovish side, is this the time for the Fed to stay on the fence or be hawkish? Instead, could a dovish Fed provide the trigger for a weakening USD (perhaps ex USDCNH) and ultimately a rise in Gold?

Developments over the past 24 hours have meant that US 10Y breakeven is now at its highest for more than a month. Importantly the level highlighted yesterday at 2.38% has given way. The setup now argues for a move to 2.55% - close to the trend highs seen in MayUnless nominal yields rise by more than 15bps, real yields are either going to stay unchanged at low levels or move even lower into negative territory, as they have started to do again todayAt the same time developments in China’s equity markets remain bearish which is now beginning to feed through to the currency.With Chinese and European authorities both on the dovish side, is this the time for the Fed to stay on the fence or be hawkish? Instead, could a dovish Fed provide the trigger for a weakening USD (perhaps ex USDCNH) and ultimately a rise in Gold?

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Olivier Desbarres

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4X Global Research

4X Global Research was founded in 2017 to provide institutional and corporate clients with the substantive research, high-quality analysis and thoughtful insight on Emerging and G20 economies and financial markets they need to make informed and timely decisions and gain an edge in their investments.

FX & Rates

In the past fortnight US Treasury yields across the maturity spectrum have oscillated in reasonably wide ranges, with the highs coinciding with the release on 13th July of US CPI-inflation data. The shape of the yield curve today is almost the same as it was on 8th July.The US rates market has tentatively found its feet, for now at least – tentatively because volatility remains reasonably high both in terms of yield levels and yield spreads. The pace of Dollar NEER appreciation has also slowed and volatility remains low while the S&amp;P 500 and Brent crude oil price have been choppy in multi-week ranges.The inverse correlation between the Dollar NEER and S&amp;P 500 has somewhat broken down so far this month. We estimate that since 28th June the S&amp;P 500 and Dollar NEER have respectively gained about 1.8% and 1.2%. In that sense the Dollar has not traded like a “safe-haven” asset, at least not in the purest sense of the term in our view.  Instead the appreciation in the Dollar NEER since 10th June has largely coincided with the flattening of the 2s-10s Treasury curve.Finally, the relative performance of major currencies does not clearly point to either “risk-on” or “risk-off” having prevailed, in our view. Since the 36-month low in the Dollar NEER on 10th June, weighted-baskets of EM currencies (excluding Renminbi) and developed market currencies have both depreciated about 3% versus the US Dollar.Our overall take is that US (and global) markets in recent weeks can neither be categorised as “risk-on” or “risk-off”. Instead it has been a case of “what is the risk?”. Specifically we think markets are still weighing whether i) they should be more concerned about a potential slowdown in US and global growth or CPI-inflation remaining sticky at high levels and ii) how central banks will adjust monetary policy, in terms of their QE programs and outlook for policy rate hikes (an arguably granular picture at present). Macro data point to rapid global economic growth having slowed in June (but remained positive) and we will elaborate on our outlook in the next FIRMS report.

In the past fortnight US Treasury yields across the maturity spectrum have oscillated in reasonably wide ranges, with the highs coinciding with the release on 13th July of US CPI-inflation data. The shape of the yield curve today is almost the same as it was on 8th July.The US rates market has tentatively found its feet, for now at least – tentatively because volatility remains reasonably high both in terms of yield levels and yield spreads. The pace of Dollar NEER appreciation has also slowed and volatility remains low while the S&amp;P 500 and Brent crude oil price have been choppy in multi-week ranges.The inverse correlation between the Dollar NEER and S&amp;P 500 has somewhat broken down so far this month. We estimate that since 28th June the S&amp;P 500 and Dollar NEER have respectively gained about 1.8% and 1.2%. In that sense the Dollar has not traded like a “safe-haven” asset, at least not in the purest sense of the term in our view.  Instead the appreciation in the Dollar NEER since 10th June has largely coincided with the flattening of the 2s-10s Treasury curve.Finally, the relative performance of major currencies does not clearly point to either “risk-on” or “risk-off” having prevailed, in our view. Since the 36-month low in the Dollar NEER on 10th June, weighted-baskets of EM currencies (excluding Renminbi) and developed market currencies have both depreciated about 3% versus the US Dollar.Our overall take is that US (and global) markets in recent weeks can neither be categorised as “risk-on” or “risk-off”. Instead it has been a case of “what is the risk?”. Specifically we think markets are still weighing whether i) they should be more concerned about a potential slowdown in US and global growth or CPI-inflation remaining sticky at high levels and ii) how central banks will adjust monetary policy, in terms of their QE programs and outlook for policy rate hikes (an arguably granular picture at present). Macro data point to rapid global economic growth having slowed in June (but remained positive) and we will elaborate on our outlook in the next FIRMS report.

Not “risk-On” or “risk-Off”, Rather What’s the Risk?

Despite buoyant domestic expectations (or at least hope) football will not be coming home after the England football team lost on penalties to Italy in Sunday’s final of the Euro Championship but Sterling is arguably coming home, albeit slowly. The GBP/EUR cross has this week traded mostly above 1.17, a level which has proven hard to break. GBP/EUR is up about 0.6% since late-June, in line with our modestly bullish view, and we expect further modest appreciation in the remainder of Q3 (see “<a href="https://www.smartkarma.com/insights/sterling-leads-euro-1-0-at-half-time-in-dull-encounter-but-could-extend-advantage" target="_blank" rel="noopener">Sterling leads Euro 1-0 at half-time in dull encounter but could extend advantage</a>”, 29th June 2021).The catalyst for Sterling’s outperformance versus the Euro has arguably been the widening differential between UK and Eurozone CPI-inflation, the Bank of England’s more hawkish rhetoric relative to a still very dovish European Central Bank and markets upping their pricing of Bank of England policy rate hikes. The recent hawkish pivots by Monetary Policy Council members Ramsden and in particular Saunders may not yet enjoy consensus support. However, it is increasingly clear, in our view, that the MPC is divided (and vocally so) as to if and when it should prematurely terminate its QE program and when it should start hiking its policy rate. The rates market, which is now pricing in 21bp of Bank of England hikes by mid-September 2022, is seemingly siding with the hawks which is in turn providing some ammunition (even if still a little blunt) to Sterling bulls. We expect reasonably robust UK GDP growth in coming months to push headline CPI-inflation above the Bank of England’s “peak forecast” of 3% yoy. We are thus sticking to our view that the gap between UK and Eurozone growth and CPI-inflation will widen further and see the Bank of England becoming increasingly hawkish, in absolute terms and relative to the ECB.Finally, the typically very large UK tourism deficits, including with Eurozone countries, are likely to be far smaller than normal in July-August, which could in turn up-end Sterling’s typical seasonal weakness versus the Euro in these two months.

Despite buoyant domestic expectations (or at least hope) football will not be coming home after the England football team lost on penalties to Italy in Sunday’s final of the Euro Championship but Sterling is arguably coming home, albeit slowly. The GBP/EUR cross has this week traded mostly above 1.17, a level which has proven hard to break. GBP/EUR is up about 0.6% since late-June, in line with our modestly bullish view, and we expect further modest appreciation in the remainder of Q3 (see “Sterling leads Euro 1-0 at half-time in dull encounter but could extend advantage”, 29th June 2021).The catalyst for Sterling’s outperformance versus the Euro has arguably been the widening differential between UK and Eurozone CPI-inflation, the Bank of England’s more hawkish rhetoric relative to a still very dovish European Central Bank and markets upping their pricing of Bank of England policy rate hikes. The recent hawkish pivots by Monetary Policy Council members Ramsden and in particular Saunders may not yet enjoy consensus support. However, it is increasingly clear, in our view, that the MPC is divided (and vocally so) as to if and when it should prematurely terminate its QE program and when it should start hiking its policy rate. The rates market, which is now pricing in 21bp of Bank of England hikes by mid-September 2022, is seemingly siding with the hawks which is in turn providing some ammunition (even if still a little blunt) to Sterling bulls. We expect reasonably robust UK GDP growth in coming months to push headline CPI-inflation above the Bank of England’s “peak forecast” of 3% yoy. We are thus sticking to our view that the gap between UK and Eurozone growth and CPI-inflation will widen further and see the Bank of England becoming increasingly hawkish, in absolute terms and relative to the ECB.Finally, the typically very large UK tourism deficits, including with Eurozone countries, are likely to be far smaller than normal in July-August, which could in turn up-end Sterling’s typical seasonal weakness versus the Euro in these two months.

Technical Analysis

Platinum has progressed to post a short term bullish break. The lower yield environment with a still vulnerable looking USD is providing a good backdrop for precious metals.  Expect continued gains for platinum and the rest.

Platinum has progressed to post a short term bullish break. The lower yield environment with a still vulnerable looking USD is providing a good backdrop for precious metals.  Expect continued gains for platinum and the rest.

With England due to play Germany in the last-16 round of the Euro Championships in a few hours time, now is a good time to revisit the Sterling-Euro exchange rate. 
Football fans will be hoping for a pulsating sporting encounter rich in history while traders will be hoping that the GBP/EUR cross, which is currently trading in the middle of a narrow 7-week range of only 1.4% and has exhibited very little volatility, will throw up some excitement of its own in the second half of the year. 
Our core scenario is that the GBP/EUR cross will fall short of setting the FX world alight but will appreciate slightly in Q3, for three inter-connected reasons.
First, international travel restrictions in the UK and Eurozone, while admittedly fluid, are likely to result in far smaller net outbound tourism from the UK this summer than compared to previous “normal” years, in our view. 
If this holds true, the typically very large UK tourism deficits, including with Eurozone countries, are likely to be far smaller than normal in July-August, which will could in turn up-end Sterling’s typical seasonal weakness versus the Euro in these two months.
Second, we think these respective travel restrictions will help boost the UK economy, particularly if as per our core scenario the British government lifts all, or at least most remaining social distancing restrictions on 19th July. The UK is on track to have double-vaccinated 80% of its adult population by mid-July, with Eurozone countries on average still about six weeks behind according to our estimates.
The upshot is that the GDP growth differential between the UK and Eurozone as measured by the Composite PMI, which has narrowed in the past two months, will widen again in coming months and push GBP/EUR higher, in our view.
Finally, as a result of this (expected) relative pick-up in growth and inflation dynamics in the UK and Eurozone we think the risk is tilted towards the Bank of England’s monetary policy stance becoming increasingly less dovish relative to the European Central Bank’s.

With England due to play Germany in the last-16 round of the Euro Championships in a few hours time, now is a good time to revisit the Sterling-Euro exchange rate. 
Football fans will be hoping for a pulsating sporting encounter rich in history while traders will be hoping that the GBP/EUR cross, which is currently trading in the middle of a narrow 7-week range of only 1.4% and has exhibited very little volatility, will throw up some excitement of its own in the second half of the year. 
Our core scenario is that the GBP/EUR cross will fall short of setting the FX world alight but will appreciate slightly in Q3, for three inter-connected reasons.
First, international travel restrictions in the UK and Eurozone, while admittedly fluid, are likely to result in far smaller net outbound tourism from the UK this summer than compared to previous “normal” years, in our view. 
If this holds true, the typically very large UK tourism deficits, including with Eurozone countries, are likely to be far smaller than normal in July-August, which will could in turn up-end Sterling’s typical seasonal weakness versus the Euro in these two months.
Second, we think these respective travel restrictions will help boost the UK economy, particularly if as per our core scenario the British government lifts all, or at least most remaining social distancing restrictions on 19th July. The UK is on track to have double-vaccinated 80% of its adult population by mid-July, with Eurozone countries on average still about six weeks behind according to our estimates.
The upshot is that the GDP growth differential between the UK and Eurozone as measured by the Composite PMI, which has narrowed in the past two months, will widen again in coming months and push GBP/EUR higher, in our view.
Finally, as a result of this (expected) relative pick-up in growth and inflation dynamics in the UK and Eurozone we think the risk is tilted towards the Bank of England’s monetary policy stance becoming increasingly less dovish relative to the European Central Bank’s. 

Sterling Leads Euro 1-0 at Half-Time in Dull Encounter but Could Extend Advantage

United States

The euro is the official currency of the European Economic & Monetary Union.  The US dollar is the official currency of the United States of America.

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