C&C Market Review
By Darshan Viswanath, Jeet Shah, Ryan Teo Zhi Kai, Gopal Modi, Maria Dupré, Max Trapnell, Oliver Armitage, Anshuman Bhatnagar, Analysts at the LSESU Trading Society
The USD/JPY was relatively stable at the beginning of the week but has been on a rising trajectory from 27th January, following a greater rise in the demand for US Dollar relative to the Japanese Yen due to higher risk-off buying as major US equity indexes fell this week. Investors were driven to demand the greenback also due to elevated market volatility from highly speculative stocks such as Gamestop, AMC, and Blackberry that have resulted from a battle between Wall Street hedge funds and several small retail investors. Although the JPY is deemed as a safe-haven currency too, the US dollar’s status of security surpassed as the markets became volatile recently. Overall, the currency pair rose by almost 1% this week from 103.76 to 104.7.
The currency pair has broken key resistance level of 104.5 and the price has climbed above its 100-day moving average. USD/JPY has been on an uptrend since the beginning of 2021, pushing the pair away from the downtrend it has been experiencing since late March 2020. The general concerns that the US fiscal stimulus may not be as large as originally anticipated and the continuing spread of COVID-19 in large numbers with the struggling roll out of vaccines have boosted the dollar.
On the other hand, the Japanese yen plummeted to its lowest levels since mid-November as it is being dumped by investors who are rebalancing their portfolios for month-end, following a risk-on attitude. Nominal US yields experienced a steady rise on Thursday and drove an increase in US/Japanese rate differentials. This favoured flows from the JPY into the USD, hence contributing to the rising pair.
However, the forward outlook is that global vaccination programmes are set to be effective in the upcoming months and retail brokers have taken actions to hinder the ability of retail traders to continue overloading on stocks like Gamestop, which will likely now ease the pressure on hedge funds and also mean better sentiment for overall US markets. Thus, it remains to see whether such actions will lead USD/JPY to break away from its current rising path.
GBP/EUR After having experienced opposing trends over the course of 2020, the GBP/EUR is set on a bullish path for 2021. The Sterling started strengthening against the Euro in early December on hopes of a Brexit deal being reached soon. However, while the agreement reached on Christmas Eve covered the rules for several industries, it didn’t touch upon the financial sector, causing fears that the swap trading system could be disrupted and reversing the positive trend of the currency pair. Additionally, the discovery of a new COVID-19 strain in the UK along with the announcement of a prolonged lockdown caused the GBP to underperform against the EUR, trading at 1.09 at the end of December. To avoid markets disruption, the UK markets watchdog announced that UK traders could use EU platforms to exchange swaps, relieving the fears and strengthening the GBP by 0.6% against the EUR.
The GBP/EUR bullish trend is also supported by the strong vaccine rollout program in the UK. With over 2 million people per week receiving the vaccine, the UK has already vaccinated almost 12% of the population, while such value stays below 2.5% in continental Europe. Additionally, the vaccines being developed by Janssen (part of Johnson & Johnson) and Novavax come as positive news, as the trials show 89.3% efficacy on the English variant of the virus and are also 60% effective against the South African mutation, which was more resistant to the earlier vaccines. The UK government has signed a deal to secure 90 million doses, leading to a further increase in the value of the GBP against the EUR. The currency pair is currently trading at 1.13, its highest level since June, with analysts forecasting a further increase to 1.15 in the next two weeks.
From the 4H chart, we observe that the WTI/USD has been trading in a range for the past 2.5 weeks with a slight downside bias, forming lower highs and lower lows. Critically, the circled candle (28/01/2021 1200GMT) showed strong pullback from the monthly high of 53.50, which may indicate exhaustion in the bullish price action.
The highlight of the trading week (25/01/2021 – 29/01/2021) was undoubtedly the significant stock sell-off and risk aversion observed on Wall Street, triggered by short squeezes in heavily- sold stocks like Gamestop and AMC. However, the relative resilience of crude oil prices could have been attributed to the latest Energy Information Administration (EIA) report, with stockpiles unexpectedly shrinking by 9.9M barrels last week, the most since July 2020. The sharp fall in supply negated the downward pressure faced by energy prices.
In the short-term, the WTI/USD seems to be encountering significant resistance at the 54.00 level. This level was last observed pre-COVID-19 in February 2020. However, the gradual weakening of the dollar promotes a risk-on attitude for the WTI. Decisions by OPEC+ to refrain from increasing oil production and enhanced US fiscal stimulus further contributes to this upbeat mood. With the RSI at healthy levels below 50 and not indicating overbought conditions, I expect the resistance to be broken in the coming weeks to test the next resistance at US$59. This upward trend is contingent on the gradual improvement of the worldwide COVID-19 situation.
For the week starting 25/01, price of Gold Futures remained essentially unchanged as they started the week at $1858.60 and ended it at $1849.60, declining by approximately 0.4%. On Monday, Gold was down in Asian trading but hopes that the U.S. would pass the $1.9 Trillion stimulus package to kickstart its pandemic-battered economic recovery limited further decline in losses. This occurred because Gold tends to benefit from stimulus measures as it raises the prospect of inflation which bullion is used to hedge against.
Gold trended downwards over the course of the week until Friday despite the outcome from the FED’s policy meeting on Wednesday that “January FOMC repeats and reinforces the Fed's existing dovishness” and ruling out any tapering in QE measures anytime soon to continue supporting the recovery. This result is perplexing for two reasons: first, as Gold is a non-interest-bearing asset, lower interest rates make it more attractive compared to other assets. Second, as noted earlier, Gold is believed to be an inflation hedge, so dovish monetary policy, which is more ready to accept inflation, should spur demand for this precious metal. However, the contrary took place as Gold was down on Thursday morning in Asia, with investors turning to the dollar.
One possible explanation is U.S. 10-year Treasury note rose by 5%; since both gold and Treasuries are considered to be safe-haven assets, there is a positive correlation between gold and treasury note prices, and more importantly, a negative correlation between gold prices and treasury note yield. Therefore, it could be the case that gold is now trading more as a safe-haven asset rather than an inflation-hedge asset, which argues for lacklustre investment flows for the time being.
Overall, Gold bullish factors like the dovish tone of the FOMC and a strong possibility of the stimulus package coming into effect within the next "four to six weeks" means given enough time Gold will break the resistance levels at $1,900 and $1,959.
Long GBP/EUR, 30/01/2021 GBP/EUR has been a currency pair of interest throughout 2020 and it looks to remain so for 2021. The exchange rate has been driven by Brexit developments and their comparative successes and failures in managing the pandemic. In 2021, GBP/EUR will be determined by the winner of the race for economic recovery.
Post-Covid Economic Recovery Whilst the EU weathered the economic impacts of the pandemic in 2020 better than the UK, one could very well expect the UK to out-recover the EU in the first half of 2021. The British vaccination programme has had a strong start, having administered just over 7.7 million doses, whilst the EU’s efforts have been comparatively weaker. As of the 30th January, the EU’s dose tally stands at 2.5 per 100 people, compared to the UK’s 12.5 per 100 and the US’s 7.9 per 100. At the current rate, the UK industries could return to normal operation by early summer, a recovery made even more dramatic when considering that UK retail and consequently GDP was hit the hardest of most industrialised and developed nations during the depths of the pandemic.
Monetary and Fiscal Policy Moreover, the different economic policy approaches of the UK and EU will be a significant driver of the exchange rate. The Bank of England has been firm in its aversion to negative rates, whilst the European Central Bank confirmed in its last meeting on the 18th January, a - 0.5% deposit facility rate (interest rate on overnight deposits with the central bank). Moreover, Rishi Sunak, Chancellor of the Exchequer, is one of the few politicians whose image has improved over the pandemic. The generous (but still imperfect) Covid support schemes, his focus on preventing long term job loss and apparent general competence in the role is reassuring.
Current Account Finally, whilst the Euro area typically has a generous current account surplus, and Britain a substantial deficit, that may temporarily change during 2021. The third quarter of 2020 saw Britain's longstanding current account deficit in tourism turn positive as Brits were unable to fulfil their yearly quest for some sun in Ibiza (among other EU destinations). Europe still looks uninviting for summer 2021, with some EU members, such as Spain, already warning Brits that they may well not be allowed to travel. Staycations will be a popular choice for many, meaning the abnormally higher savings made by households in Q3 2020 will be spent domestically. Meanwhile, EU member's whose tourism industry accounts for a significant portion of their economic activity (e.g. Spain) will suffer for the second year in a row.
Technical Analysis, Strategy and Entry/Exit
All the above reasons provide good fundamental backing to taking a long GBP/EUR position. over the last few days, GBP/EUR, currently at 1.1323, has made a sustained breakout from a triple-tested upper band of resistance at around 1.1250. The current market price is suitable for entry with the safety net of a stop loss just below 1.1250. The next level of resistance is at 1.1500, an intra pandemic trading high which should be broken but can be used as a level for revaluation.
If the exchange rate rises above 1.1500, a stop loss can be set at this price, providing a safety 1.5% return from the trade if the exchange rate later falls to this level. If the fundamentals remain compelling, with the UK recovering well and a delayed recovery by the EU, then 1.1750, a pre-COVID level of resistance, may be an appropriate exit price. This would provide an overall return of 3.7%. Considering the easy access to substantial leverage (often as high as 100:1) in FX markets, the nominal return could be significant. The holding time for this trade could range from 2-6 months.
The performance of GBP/EUR beyond the next six months will depend on how the UK orientates itself on the global stage and whether Britain begins to thrive on its own or suffer from the lost ties to the EU.
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