Over the last 48 hours, the financial media has been locked in on the worldwide deleveraging in global equities. From Beijing to Zurich, stock indexes have seen longstanding trend lines and support levels broken across the board.
Although the narrative points to Wall Street as the trigger point to the recent equity rout, US stocks have been among the best performers even though interest rates have been climbing steadily higher throughout 2018.
For the sake of brevity, we'll say that the combination of rising US rates, trade tensions and the overvaluation of US stocks was the catalyst for the correction lower.
From a Forex perspective, the most interesting part has been how quickly President Trump pointed the finger of blame at the Federal Reserve for what most commentators would call an overdue repricing of risk. Mr Trump called Fed chief Jerome Powell "crazy" and expressed his displeasure that the FOMC has maintained their upward trajectory in monetary policy.
In this respect, we can't overlook the irony that Mr Trump actually appointed Mr Powell as Fed chief, and when he was approved in January, referred to Mr Powell as the "smartest economist in the world ".
By most economic metrics, monetary policy in the US is still on the easy side, not restrictive. As reflected in yesterday's CPI data, core inflation at the consumer level is around 2.7%. By comparison, US 2-year notes are yielding 2.80% and the Fed Funds target is between 2.00/2.25%. As such, the real rates for the US curve out to 2 years are still negative.
However, after Mr Trump's comments about his policy preferences, Forex traders sold the USD lower on the perception that the FOMC may be influenced and hold back on future normalisation of rates. We don't consider this a realistic dynamic for USD pricing going forward.
We had been expecting the USD to correct during this week and now believe the reversion lower in the USD index is nearly run its course. With no first-tier data scheduled to be released in either Europe or the US today, we will likely see the G-7 crosses confined to recent ranges going into the weekend.
We've seen about $2.5 billion worth of EUR/USD options between 1.1600/25 due to expire today, which should keep the pair capped into the weekend. There seems to be growing headline risk about the simmering budget debate between Italy and the EU. We'll focus more on this next week.
Our short position in the GBP/USD from 1.3145 was stopped out at 1.3110 for a small profit.
As is usually the case, USD/JPY has traded sharply lower as the equity market goes into "risk off" mode. Yesterday's NY low of 111.90 was not enough to hit our downside profit target of 111.70, which leaves us still short from 113.45.
The AUD/USD found solid support at .7040 on Tuesday. We don't see that chart point as a significant line of support and expect to see it taken out over the near-term.
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