Recalibrating optimism in FX and rates


Asia FX recalibrating optimism. Fed cuts vindicated as Nowcasts point to US growth below 1%.
Philip Wee, Eugene Leow21 Nov 2019
    Photo credit: AFP Photo


    FX: Recalibrating optimism

    The China-US Phase 1 trade deal is not headed the way both countries wanted. The mid-rate for USDCNY first bottomed at 6.99 on November 11, shortly after China started its push to roll back existing tariffs as a precondition for the deal. US President Donald Trump has resumed warning that US tariffs will increase without a deal.  To complicate matters, the US Senate and Lower House of Representatives have unanimously supported a Hong Kong Human Rights and Democracy Act. As optimism fade for a trade deal this year, the risk has returned for the planned US tariffs on December 15 to proceed. The mid-rate for USDCNY has moved up to 7.01 yesterday and could return to the 7.08 level from which it fell. Onshore spot CNY has already returned more than a third of its October rally.



    Emerging Asian currencies will also need to recalibrate the optimism discounted in the past couple of months. The Fed is less of a drag on the USD now that it sees little need for more rate cuts. Consequently, the SGD did not get a lift from this morning’s upward revision in Singapore’s GDP. The SGD has only given back around 17% of its October rally, less than the 51-57% retracement in the MYR and IDR and the 31% pullback in the KRW and PHP. Against this background, Thailand will probably step up efforts to prevent the THB from appreciating past 30 against the USD.

    Rates:  Fed nowcasts below 1% vindicating frontloaded cuts   
                 
    Fed nowcasts (the average of St Louis and Atlanta Fed) now point to growth below 1%, suggesting that the Fed’s frontloaded rate cuts (75bps in total) were well-timed. Recession fears peaked in late August when many segments of the US Treasuries curve ware inverted and 10Y yields touched a low of 1.43%. Since then, optimism on a phase 1 China-US trade deal and aggressive Fed easing have allayed these fears somewhat, keeping 10Y yields in the 1.5-2.0% range.


     
    There are a couple of points to note about the Nowcasts. First, they tend to be volatile and tend to overshoot (in either direction) actual GDP growth numbers even if the guiding direction is generally correct. Second, 10Y US yields appear to have bottomed in late August. If we believe the yield curve to be a good predictor of future economic activity, 4Q19 and 1Q20 may mark a trough in US growth.  In any case, we see the Fed on hold. Fed minutes released yesterday reiterated that it would take a material change in outlook before acting. It would probably take a deterioration in China-US trade relations and / or a persistent string of weak US numbers heading into mid-2020 to prompt the Fed to cut. 

    Philip Wee

    FX Strategist - G3 & Asia
    philipwee@dbs.com

     

    Eugene Leow

    Rates Strategist - G3 & Asia
    eugeneleow@dbs.com

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