1. Virus Situation
The successful vaccination program has allowed the UK to open up faster and sooner than peers & provides a favourable environment for GBP.
The BoE meeting on 5 August provided a flurry of comments with something for both the doves and the hawks. The vote split was more dovish (7-1) with BoE’s Saunders the only dissenter, while upgrades to growth and were positive, even though price pressures is still views as mostly ‘transitory’. Reasons for a patient stance was the uncertainty surrounding the virus at the time as well as waiting for the end of the furlough scheme to assess the impact on the labour market. Thus, the bank will be in wait-and-see mode until at least Oct or Nov. The other important change was the reduction in the bank’s QT threshold from 1.5% to 0.5%, with the bank looking at a bank rate of 0.5% to stop reinvesting maturing assets and a rate of 1.0% to start selling assets and reducing its . Market participants are mixed about what this means (it’s positive since the bank has enough confidence to lower the even while rates are low, but on the other hand it means rates can stay lower for longer which is a negative). However, all in all the most important take away was the continued optimism about the economy despite virus uncertainty and comments that modest tightening will be required.
3. The country’s economic developments
Hopes of a fast economic recovery has seen the BOE and IMF upgrade GDP projections for the UK which has widened the growth differentials between other major economies and has been a positive input for GBP. However, a lot of these positives are arguably already reflected in the price which means a continuation of the recent misses in economic data could make further solid gains more difficult for the GBP to maintain. The incoming data has been mixed with CPI and the labour market pushing higher while consumer spending disappointed. This week’s incoming BoE has some room to disappoint in our view as the market might have gotten too optimistic about how the bank will respond after the recent CPI print. Remember, the bank’s own projections expected CPI to reach 4% before cooling off, which means just above 3% shouldn’t scare them into tightening, and furthermore the bank still needs to evaluate how the labour market keeps up after furlough ends. Even though we are still on the currency and expect higher rates next year, the BoE might cool some of the optimism and pick a more patient stance this week.
4. Political Developments
Even though a Brexit deal was reached at the end of last year, some issues like the Northern Ireland protocol remains, and with neither side willing to budge right now it seems like a never ending can kicking could see these issues drag on for a long time. For now, Sterling has looked through all the rigmarole and should continue to do so as long as the cans are kicked down the road.
4. CFTC Analysis
Latest CFTC data (updated until 14 Sep) showed a positioning change of +29314 with a net non-commercial position of +4790. Latest CFTC data showed a sizable positioning change after recent hawkish BoE comments which have taken positioning from a net-short back into net-long territory. Even though our bias remains to the upside, the move in spot and rates markets shows some caution has been thrown into the wind and means we want to take a more sober and patient approach to Sterling going into this week’s BoE.
1. Safe-haven status and overall risk outlook
As a safe-haven currency, the market’s risk outlook is the primary driver of JPY. Economic data rarely proves market moving; and although expectations can prove highly market-moving in the short-term, safe-haven flows are typically the more dominant factor. The market’s overall risk tone has improved considerably following the pandemic with good news about successful vaccinations, and ongoing monetary and fiscal policy support paved the way for markets to expect a robust global economic recovery. Of course, there remains many uncertainties and many countries are continuing to fight virus waves, but as a whole the outlook has kept on improving over the past couple of months, which would expect safe-haven demand to diminish and result in a outlook for the JPY.
2. Low-yielding currency with inverse correlation to US10Y
As a low yielding currency, the JPY usually shares an inverse correlation to strong moves in yield differentials, more specifically in strong moves in US10Y . However, like most correlations, the strength of the inverse correlation between the JPY and US10Y is not perfect and will ebb and flow depending on the type of market environment from a risk and cycle point of view. The rangebound price action in US10Y from July has meant our conviction in JPY shorts has reduced versus the US Dollar , and until US10Y can convincingly break higher and take out its recent range highs we will stay more patient with USDJPY longs.
4. CFTC Analysis
Latest CFTC data (updated until 14 Sep) showed a positioning change of +2030 with a net non-commercial position of -60295. With positioning still, the largest net-short among the majors we want to be careful of the risks going into September which is historically the worse performing month for equities. That alone doesn’t mean we are expecting equities to push lower but given the frothy price action over recent weeks (haven’t seen a 5% correction in the S&P500 in 11 months) as well as and the growing chorus of participants calling for a bigger correction, we don’t want to ignore the possibility of some increased this month. That doesn’t mean we start buying the JPY of course, it just means that if we do see some jitters creeping in for risk assets it is expected to be positive for the JPY, and with the biggest net-short for the majors there is a lot of downside in the JPY that can be unwound in such a scenario.