Overview on the Market

Overview

Equity market turmoil has also abruptly become the main driver for the FX market. The sell-off seen on US banks and US stocks remains a specific drag for the USD as: 1. it triggered a sharp drop in US yields along the entire UST curve (the 2Y and 10Y tenors have fallen to around 4.00% and 3.50%, respectively, from over 5% and 4% just last week) and 2. it forces a re-pricing of central bank tightening intentions that is heavier for the Fed than for the other major central banks. More critically, the drag will only remain focused on the USD if the US equity tumble does not spill over to outside the US in a more fundamental way. This reaction is not new as it was visible in the early stage of the subprime crisis of 2007-08. Like then, the USD currently appears to be losing its usual role of preferred safe-haven currency to the advantage of both the JPY and the CHF, which sharply appreciated yesterday. The EUR-USD rally could have been even larger if it were not for the tensions on Eurozone stocks, too, but the pair could now extend its rally to close to 1.0760. The break of this threshold remains critical on charts to re-gaining 1.08 and resuming a bullish trend towards the YTD high of 1.1033. That said, the behaviour of US stocks will likely lead the way for the USD today too. In the meantime, USD-CNY tumbled to around 6.85, being helped by the heavy USD-JPY fall back towards 133, confirming the strong correlation between these two exchange rates. Lastly, the other exchange rates are now showing mixed reactions to the new risk scenario, depending on whether they reflect either the weaker USD per se, or fears of that current market turmoil might spread further. High-beta currencies, such as the AUD and the NZD, will likely further outperform if the USD falls again, together with the RUB. Quite surprisingly, CEE3 units have not yet exploited their negative correlation with the higher EUR-USD and the HUF is even underperforming, as EUR-HUF broke above 390. However, a return towards 385 remains possible, in our view, if the USD eases further across the board.

USD: Risks of another leg lower

The collapse of Silicon Valley Bank and Signature Bank has sent shockwaves through the financial world, and the fallout from the events is still being felt. As markets reopened after the weekend, investors and analysts alike were eager to take stock of the situation and assess the damage.

First and foremost, it became clear that the collapse of the two banks had caused significant losses for a wide range of investors. Many had been heavily invested in the banks' stocks and bonds, and had seen their portfolios plummet in value overnight. In addition, a number of hedge funds and other institutions had large exposure to the banks and were now facing significant losses as a result.

The broader financial system was also feeling the impact of the collapse. The sudden disappearance of two major banks had disrupted markets and left many investors scrambling to adjust their positions. The credit markets were experiencing significant volatility, with spreads widening and liquidity drying up.

As the days went on, it became clear that the collapse of the banks was not an isolated event, but rather the symptom of a larger systemic issue. Questions began to arise about the stability of other financial institutions, and fears grew that the crisis could spread beyond the banking sector and into the wider economy.

In response, regulators and policymakers around the world sprang into action, working to shore up confidence in the financial system and prevent a broader crisis from taking hold. Central banks pumped liquidity into the markets, while governments announced plans to provide support to affected industries and individuals.

Despite these efforts, the fallout from the collapse of Silicon Valley Bank and Signature Bank continued to reverberate throughout the financial world. The full extent of the damage was still unclear, and many investors were bracing themselves for further losses and uncertainty in the weeks and months to come.

Few things to pay attention are;

• Depositors at SVB and Signature could access their funds on Monday thanks to intervention by US regulators, which aimed at preventing contagion.
• The Fed’s $25bn Bank Term Funding Programme came into action, offering advantageous conditions for banks that can get loans with collaterals valued at par – therefore avoiding incurring losses when selling securities that have lost in value. It remains to be seen to what degree this will ultimately be leveraged.
• The repricing in rate expectations has been titanic. In the US, markets now see only a 50% chance of a 25bp hike in March, and fully price in 67bp of cuts by year-end. US 2-year yields edged below 2.0%, more than 100bp below Thursday’s levels.
• US equities have steadied but failed to rebound despite the Fed’s moves to calm investors.

Here is why EURUSD is not trading higher on the FED re-pricing;

Here’s why EUR/USD is not trading higher on the Fed re-pricing | Article | ING Think

EUR: Capped, for how long?

I'm currently keeping an eye on the EUR/USD, which seems to be holding steady at 1.07 despite the significant shift in US rates. It's worth noting that rates in the Eurozone have also been affected by this, with many doubting the 50-basis point hike promised by Christine Lagarde for the March meeting.

While the markets are only pricing in 38 basis points of tightening this week, few of my economics friends and I still believe that the recent financial turmoil will only impact the discussion on the rate path beyond the March meeting. As such, I’m sticking to my original 50 basis point call, as the ECB remains focused on fighting inflation.

From a FX perspective, this could be good news for the Euro. However, there are still some challenges ahead. Firstly, President Lagarde will need to convince the markets at the press conference, which will undoubtedly be more difficult given recent developments. Additionally, rate differentials are only a secondary driver of the EUR/USD, and the direction of the pair will likely be determined by how the Fed reacts to the SVB fallout.

At the moment, I’m targeting 1.08-1.09 by the end of this week. It's a volatile situation, and anything can happen, but I’m keeping a close eye on the developments and will adjust my outlook accordingly.

GBP: Upside despite potential hold by the Bank of England

In the UK market, all eyes are on HSBC's acquisition of SVB UK, an operation that has been backed by the UK government. However, it's difficult to draw any clear conclusions from an FX perspective, given the current market environment where large daily swings in equities can heavily impact a pro-cyclical currency like the pound.

In terms of data, recent figures released yesterday afternoon indicate that wage growth may have peaked, which is consistent with previous surveys conducted by the Bank of England (BoE). The 3M/3M annualized rate of growth, which is a key measure of momentum in pay numbers, has slowed significantly in recent months. This news is likely to be welcomed by the BoE, and it raises questions as to whether the Bank will still proceed with the previously expected 25 basis point hike next week, given the fallout from the SVB acquisition.

Even if the BoE decides to hold off on hiking rates, this shouldn't prevent Cable (GBP/USD) from testing the January 1.2450 highs if the Fed shifts to the dovish side and risk sentiment bounces back. Overall, the situation remains uncertain, and it's important to keep a close eye on the latest developments to adjust one's strategy accordingly.

This content may have been written by a third party. ACY makes no representation or warranty and assumes no liability as to the accuracy or completeness of the information provided, nor any loss arising from any investment based on a recommendation, forecast or other information supplied by any third-party. This content is information only, and does not constitute financial, investment or other advice on which you can rely.