News & Analysis

CAD

The Canadian dollar depreciated over 2% against the US dollar last week as higher front-end Treasury yields impacted the loonie through both the equity and rate differential channels. This morning, with the US 2-year trading 10bps higher already at 4.3%, pressure remains on both US equity futures and the Canadian dollar. Given the amount of Fed speakers set to hit the wires this week, and the limited likelihood of them deviating from the core message delivered by Chair Powell at last Wednesday’s meeting, we expect the momentum of higher front-end Treasury yields and upside in USDCAD to persist this week.

USD

Higher yields, negative equity futures, and turmoil in the pound are seeing the dollar extend its upside momentum this morning after the DXY index touched a fresh high of 114 overnight. Although the dollar has partially retraced from its earlier highs, we expect traders to continue favouring the greenback even as central banks, stretching from Asia to potentially Europe with the Bank of England, are starting to push back against market forces. In terms of the domestic economic calendar, commentary from Fred officials throughout the entirety of this week will likely remain supportive of the stronger dollar too as we don’t expect them to deviate from last week’s hawkish dot plot this early into the inter-meeting communication period. Towards the back-end of the week, the focus for markets will likely shift towards the latest reading of the Fed’s favoured inflation measure for August, the personal consumption expenditures index.

EUR

The single currency has started this week on the back foot as it trades 0.62% lower this morning. While the outcome of the Italian election is the only domestic development over the weekend, which is likely having some effect on the currency ahead of the European open in bonds and equities, the euro’s latest bout of depreciation was likely sparked by the capitulation in the pound seeing as the election outcome was well predicted by the preliminary polls. Sterling’s decline isn’t only hampering the euro via the impact it is having on the broad dollar in G10 markets, but also via the GBPEUR cross, which now trades at its lowest level since December 2020 after reaching lows not seen since the onset of the pandemic overnight. Later into the day, as the pound potentially stabilises around historic lows, the focus for euro traders will recentre on domestic events where the market reaction to the first far-right government in Italy since WW2 will be key. State broadcaster Rai has predicted that the far-right coalition, spearheaded by Brothers of Italy leader Giorgia Meloni, is poised to win 43% of the vote, giving it a strong majority in the upper house. While Meloni has assured investors that the new coalition will keep the government’s burgeoning debt pile under control and its support for Ukraine, concessions on these matters may need to be struck in order to construct a functioning government with Matteo Salvini’s nationalist League party and former premier Silvio Berlusconi’s Forza Italia. As we noted within our Week Ahead preview, since the balance of power within the coalition is yet to be seen, the market reaction will be based upon the political agenda crafter by the parties in charge as opposed to the election outcome itself. Beyond these policies, markets will also be highly sensitive to key Cabinet appointments such as the Minister of Economics and Finance.

GBP

Financial markets continue to voice their displeasure over the latest fiscal policy plans with their actions this morning as the fire sale in the pound continues. Heading into the European open, GBPUSD is trading close to 3% lower as Asian markets extend Friday’s post-budget 3.77% collapse in the currency. At this point, with the pound flirting with its March 1985 low,  momentum now drives the price action in the pound as the exodus from UK assets persists. The sick irony of this is that the weaker the pound gets, the more expensive the government’s liabilities become. This is either through the price of its imported energy bill, which the government is completely exposed to given the energy price cap policy for households, or higher financing costs due to more expensive gilt yields. On the latter, while gilt markets don’t open until 8am BST, it is highly likely that 2-year yields will spike even higher this morning after Friday’s 44.7bps increase – its largest one-day increase since the onset of the global financial crisis. Additionally, with the outsized market moves only hampering market functionality, the risk of the Bank of England intervening has increased sizably and we now look for an inter-meeting announcement in the early part of this week. The question policymakers will be debating over is how large the interest rate hike needs to be in order to clot the bleed in financial markets. With 75bps quickly priced in for November’s meeting, we’d argue that 50bps will be the absolute minimum needed to begin turning the tide, however, we can’t write off the risk of a larger hike that would signal a greater level of intent from the BoE. The option of a larger hike may be more popular among MPC members this week seeing as Number 11 Downing Street continues to stand by its guns as the Chancellor doubled down on his spending commitment over the weekend when speaking to the Financial Times, stating that there is “more to come”.

 

 

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