Posted on: 08 May, 2019
The Yen has had no rival this week as the deleveraging in financial markets continues to follow its course at a rapid pace. The psyche of the market has clearly permuted from Trump's tweet just a premeditated tactic to real fears of a no deal or at least a prolonged delay in an eventual agreement.
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The Daily Edge is authored by Ivan Delgado, Market Insights Commentator at Global Prime. The purpose of this content is to provide an assessment of the market conditions. The report takes an in-depth look of market dynamics, factoring in fundamentals, technicals, inter-market in order to determine daily biases and assist one’s decisions on a regular basis. Feel free to follow Ivan on Twitter & Youtube.
The Yen has had no rival this week as the deleveraging in financial markets continues to follow its course at a rapid pace. The psyche of the market has clearly permuted from Trump's tweet just a premeditated tactic to real fears of a no deal or at least a prolonged delay in an eventual agreement. The sizeable loss of value in Chinese equities or the steady depreciation in the Chinese Yuan are bad augurs for a market filled with renewed uncertainty over the outlook for global growth if the US hikes tariffs to 25% on $200bn of Chinese imported goods by this Friday. In the meantime, on the other side of the spectrum, we find the Kiwi, battered by a surprise 25 bp rate cut by the RBNZ, and the Sterling, pressured as optimism around a Conservative-Labour agreement on Brexit fades away. The USD is another currency that despite the usual promotion of buy-side flows on the back of a pick up in risk aversion, the unwinding of carry trades as the VIX flies above 20.00 is proving to be a major hindrance to attract enough demand. The Aussie is finding demand, spurred by the decision of the RBA to maintain rates unchanged and failing to express a stronger easing bias yesterday; the currency is still faced with the China trade issues, which put pressure on the Yuan, but short-term, the adjustment higher in the AUD is also a fundamental play predicated on the RBA inaction.
* This Information is gathered after scanning top publications including the FT, WSJ/Dow Jones, Reuters, Bloomberg, Institutional Bank Research reports.
The risk conditions have gone from bad to worse, as portrayed by the dominance of the Japanese Yen and to a much lesser extent the DXY, lagging far behind as carry trade strategies unwind fast. In terms of the composition of today's risk profile, we remain deep in a ‘true risk off’ arena, not only characterized by bearish micro and macro trends in equities and yields, as per the slopes of the 25 and 125-HMAs, but the structures have turned unambiguously bearish as new legs lower are found.
In such a rapid pace of deleveraging, one of the dominant strategies in FX amid low vol had been to fund trades via EUR, JPY, CHF and put the money to work on high-yielding currencies the likes of some exotic currencies or the USD, which pays a relatively handsome 2.5%. As market conditions tighten with vol flying high, these positions are forced to be unwound as investors cash out, which leads to DXY selling pressure. This effect is somewhat counterbalanced by the appeal of the currency as a safe-haven.
When analyzing the Chinese markets as a barometer of where we stand in the US-China trade negotiations, the augurs are firmly on the negative side as reflected by the consolidation at the lows in the Shanghai Comp and the acceptance of USD/CNH around the 6.8 handle. These two markets are ruling out a friendly resolution in the trade talks short-term. The chart below shows the USD/CNH risk reversals, where CNY bearish expectations have shifted for up to 3 months. Shifting gears to the VIX and junk bonds, the uncertainty is clearly reflected in these asset classes too, with a spike towards 22.00 in the VIX, highest since Jan 22, coupled with a plummeting of high-yielding corp bonds.
As volume picks up and the diversification of capital flows spreads out into the currency market this Wednesday, the Japanese Yen is without a doubt the currency promoting the punchiest movements. On the flip side, short the GBP or the NZD, the former a trade just developing after the RBNZ rate cut, have paid handsomely.
Surprising news indeed by the RBNZ just hit the screens, after the Central Bank cut rates by 25bp to 1.5%, leading to a sharp selloff in the NZD, immediately marked down by over 75p. From a fundamental and technical perspective, while short NZD/USD looks attractive, long AUD/NZD as the readjustment of policy expectations plays out or short NZD/JPY as risk off anchors the yen look set to be interesting propositions on Wednesday. A significant number of opportunities are set to be available intraday.
As the chart below shows, short GBP/JPY has been a stellar trade as the Sterling attracts fresh selling interest on the back of fading hopes of a Conservative-Labor Brexit agreement. The diverging FX flows have led to a sizeable 145 pips extension after a relentless selling that started early in the European session and is yet to abate. The build-up of volume at the very lows of the day circa 144.00 after a double distribution down is a reminder that plenty of bids have come through the books to accept as the new equilibrium these lows. To the question, can the momentum extend, the accumulation of volume depicted by the 25-HMA micro trend in thick orange applied to the OBV (On Balance Volume) shows a pronounced bearish slope, which suggests the risk of the bearish bias to extent. Additionally, both the micro trend via the slope of the UK-JP yield spread in thick blue line and the risk line in thick black line endorse shorts.
Another market that looks poised to stay pressure, conditioned to US-China trade headlines, is the exchange rate that reflects the valuation of US Dollars vs Japanese Yens. Not only the volume profile has printed a triple distribution down with the POC trapped on the topside, but the micro trend via the slope of the OBV in orange think line manifests the build-up of selling pressure is still intact. Furthermore, the DXY micro trend is rolling over towards the bearish side at a time when the micro trend in the market risk profile, as depicted by the black thick line, is firmly bearish. That’s always going to be the most toxic combination that contrarian longs can face. Besides, the micro trend derived from price action sees the 25-HMA with congruence, which is further confirmation. We really need to see a major turnaround in sentiment emanating from upcoming US-China trade talks for the exchange rate to show some signs of life again, otherwise, a crack at 110.00 is imminent.
Shifting gears to the Euro, the recovery above the 25-HMA derived off price action, alongside the bullish micro-trend in the OBV (build-up of buy-side volume pressure), is a sign that the tide is turning steadily against the US Dollar heading into Wednesday. The exchange rate has managed to find a new leg up as weak-handed players have shifted to be the sellers. The volume profile printed on Tuesday is a warning signal as, despite the bearish run, sellers failed to close below the POC. Under this environment, low volume taps followed by new initiated buying looks set to be a dominant strategy, subject to the OBV and the price maintaining the correct bullish structures and slopes. The next target rich in liquidity should be found at 1.12-1205 just overhead, followed by 1.1220-25.
Another currency that is set up to exploit the potential weakness in the USD, especially after the strong adjustment in the front end of the Australian yield curve, up 8bp, is the AUD. The market is still in a transition to re-adjust the AUD valuation on the premise that the RBA did shy away from expressing a stronger easing bias, something the market had anticipated. The recovery of the exchange rate through the 25-HMA is about to get the backing of a turn in the micro trend in the OBV, which essentially gives us an indication of buy/sell volume pressure. If one combines these positive developments with a higher value line as depicted by the inversion of USDCNH and DXY, paired with a positive price structure and the POC trapped underneath the close, it suggests a buy-side bias.
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