A welcome trade war de-escalation in the short term

Trump’s decision to delay tariffs on selected Chinese imports is a welcome relief for the markets.
Philip Wee, Eugene Leow14 Aug 2019
    Photo credit: AFP Photo

    FX: A welcome de-escalation in the short-term
    US President Donald Trump’s decision to delay, from September 1 to December 15, a 10% tariff on some Chinese products for Christmas was a welcome sign of a temporary de-escalation in the China-US trade war. The offshore Chinese yuan appeared to agree. The 12M non-deliverable forward outright for USDCNY plunged to 7.06 from 7.15 in overnight markets; USDCNH dived to 7.01 from 7.10. It is good that the mid-rate fixing for USDCNY fell this morning after four straight increases above 7. This will provide relief to Emerging Asian (EA) currencies.
    Trump’s decision was timely. The last time global recession fears were this high was at the start of 2019. Back then, the flash crash on January 3 brought USDJPY just below 105. USDJPY rebounded last night to almost 107 after it came shy of testing 105. Investors were fleeing equities into bonds on hopes of more monetary easing by central banks. With Developed Markets “embracing” negative yields, gold prices soared above USD1500/oz for the first time since April 2013. The 27% (intra-day) plunge in the Argentine peso was a critical shot across the bow for Emerging Markets.
    Assuming that Trump is not about to ruin Christmas ahead of next year’s US presidential elections, we favour EA currencies over DM currencies again. US bond yields would need to move off their lows betting on a US recession. Unfortunately, UK recession risks have become more real after GDP contracted a preliminary 0.2% QoQ in 2Q19. This coupled with increased odds for a no-deal Brexit on October 31 will keep up the pressure on GBPUSD to test its crucial 1.20 support. Similarly, Europe’s largest economies such as Germany and Italy are on the verge of recession with the European Central Bank standing by to lower interest rates in September and possibly deliver more asset purchases thereafter.
    Rates: Short-end USTs bear brunt of tariff delay  
    The market’s outsized reaction to the tariff delays (to 15th December) on selected Chinese imports and non-reaction to firm US CPI numbers are telling. Trade war risk has a very high weight in investors’ reaction function as it is perceived that the Fed would have to deliver “insurance cuts” to cushion the economy. This China-US trade war de-escalation (or delay) is sufficient to drive 2Y yields up 7bps overnight, bear flattening the US Treasuries curve in the process. The market is now pricing in 3.5 rate cuts over the coming year compared to 4 cuts just two days ago.

    We maintain our neutral stance on USD rates (see Macro Strategy, 13th August). USD rates look low but we suspect that there would still be demand for safety as hard Brexit risks loom. In any case, a tariff delay does not resolve what would likely be protracted wrangling from US and China. Moreover, we have yet to see convincing signs of turnaround across the export-oriented economies. The lower-for-longer narrative still applies but this improvement in sentiment should mean that yields could stay somewhat buoyant.

    Philip Wee

    FX Strategist - G3 & Asia


    Eugene Leow

    Rates Strategist - G3 & Asia

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