Are FX Markets Signaling It's Going To Be OK?

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Includes: CNY, CYB, DCHF, DJPY, FXCH, FXF, FXS, FXY, JYN, UCHF, UDN, UJPY, USDU, UUP, YCL, YCS
by: FieraCapitalUS
Summary

Trade conflicts between China and the US may be unresolved, but FX markets are beginning to signal that it may be safe to dive back into the risk pool.

China's currency, the Chinese yuan, has begun to stabilize and has yet to seriously threaten the important 7 level, though it has moved into the top half of a longer trading range.

Among G-10 FX today, growth and risk-oriented FX like the Swedish krona, Norwegian krone, and New Zealand dollar are firmer. Safe-haven FX such as the Japanese yen and Swiss franc are weaker.

Are currency markets sounding the all clear this morning? It's early to truly make a call, but interesting signals are developing:

Trade conflicts between China and the US may be unresolved, but FX markets are beginning to signal that it may be safe to dive back into the risk pool. Though wading slowly through the shallow end may be the more prudent option, it's important to note that over the past several days, the US dollar did not make a serious effort to break through the top of its long trading range. In fact, the US dollar has softened since last Tuesday's peak, despite a modest firming today (Figure 1). Other key FX signals to monitor:

  • China's currency, the Chinese yuan, has begun to stabilize and has yet to seriously threaten the important 7 level, though it has moved into the top half of a longer trading range.
  • Among G-10 FX today, growth and risk-oriented FX like the Swedish krona, Norwegian krone, and New Zealand dollar are firmer. Safe-haven FX such as the Japanese yen and Swiss franc are weaker.

Why is the US dollar not picking up momentum here? Maybe FX investors detect posturing in this trade tariff impasse and are betting on a resolution. Another possible reason is that FX traders like currencies associated with hawkish central banks. The Fed is getting dovish, and the front end of the Treasury curve (Figure 4) is supporting that conclusion as the yield of the 2-year note falls further beneath Fed Funds, forecasting a rate cut. See supporting charts below:

Figure 1: US Dollar

Source: Bloomberg, accessed 5/14/2019

Figure 2: 10-Year TIPS Breakevens

Source: Bloomberg, accessed 5/14/2019

Figure 3: Chinese Yuan

Source: Bloomberg, accessed 5/14/2019

Figure 4: US Dollar

Source: Bloomberg, accessed 5/14/2019

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.