A delayed reaction to the Democrat blue wave has seen some powerful selling of tech stocks. A little surprisingly, the reaction in FX markets has remained very muted. FX participants so far see this as an idiosyncratic re-pricing of the tech sector, rather than a harbinger of recession. Expect defensive FX to outperform, rather than a broad dollar decline
USD: Payrolls Can Provide the Dollar Some Support
We have all seen big falls in tech stocks on the back of the threat to data centres. The fact that the equity sell-off spread to the defensive sectors of consumer staples, utilities and healthcare serves as a warning that an asset management industry underweight in cash may be tidying up positions into year-end. After all, most global benchmark equity indices, apart from China, are still in the green on a year-to-date basis.
FX markets have reacted to the equity sell-off in a typically defensive, but muted way. In the G10 space, the high beta Australian and New Zealand dollars are underperforming, while the defensive Japanese yen and Swiss franc are in demand. However, the moves have been small. So far, it seems FX participants are prepared to see the tech sell-off as an idiosyncratic story on the back of the Democrat blue wave, rather than a major macro setback. Notably, the trades on a 61% one-month implied volatility compared to just 7% for . This may help investors to see FX markets as a less correlated asset class compared to the wild swings in tech.
Where we have seen the highest correlations in FX are places like the . Local investors run high FX hedge ratios on their US investments and will now be in the process of buying back dollar hedges on their shrinking US tech portfolios.
The big question for the dollar is whether this tech sell-off leads to a broader re-assessment of the US growth and inflation trajectory. US short-dated rates have fallen close to 50bp since late September and the dollar’s yield advantage over other major pairs has softened a little. Feeding into that story today will be the October US jobs report. Second-tier US job indices this week have all come in on the strong side and there seems to be no reason to expect a soft jobs figure today. The whisper number currently stands at +82k versus last month’s soft reading of +29k.
A decent jobs number today will confirm the Fed’s understanding that the US jobs market is ’solid’ and could provide some support to short-dated rates and the dollar. We still think it is too soon to call a broad-based dollar decline and that defensive positions in FX markets will be expressed through cross rates like a lower or in the emerging world with a weaker South African rand or Mexican peso (see below).
The is being remarkably resilient and can continue to trade towards the middle of a 101.50-102.50 range. Clearly, the dollar’s liquidity advantages and near 4% one-week deposit rates are helping here.
EUR: Unimpressive
It has been a rather unimpressive performance from the euro. We know that the European buy-side is running low hedge ratios on its US investments. Yet a large US tech sell-off is still not enough to prompt much buying at all. It seems that global investors are more than happy to leave their cash in dollars for the time being. In other words, we are seeing a rotation into cash and not out of the dollar. Helping that story is the return to more familiar correlations, where US Treasuries are now performing their safe haven role.
Barring a soft US jobs report today, expect EUR/USD to consolidate not far from 1.12. On the eurozone calendar today is ECB Chief Economist Philip Lane at 10:30 CET. The market still prices 18bp of ECB hikes in December and that should remain sticky unless we see a much deeper equity correction.
A hawkish Bank of England can see sterling continue to outperform. The prospect of UK inflation heading up towards 5% in the second quarter next year makes BoE hawkish pricing quite resilient. has overshot rate differentials down at these low 0.83 levels, but there seems to be no reason to expect an upside correction just yet.
Disclaimer: This publication has been prepared by ING solely for information purposes irrespective of a particular user’s means, financial situation or investment objectives. The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read more
