e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

11 November 2018

FX weekly: AnotherSOMA test of 1.13

Martin Enlund | Andreas Steno Larsen

Another SOMA-day is on the cards on Thursday, why we could be ripe foranother test of the 1.13 level in EUR/USD. The 2019 debt ceiling issue isthough still a 3-6-month USD-worry, especially now that the Democrats havetaken control of the House.

Table 1: Our current list of convictions

Another SOMA redemption day on November 15

You know the drill by now. The Fed’s balance sheet will shrink by 17.4bn on Thursday November 15. Sincelate February the track-record of being long dollars on such SOMA days has been stellar. On a close-to-closebasis, EUR/USD usually falls by 0.24% with a hit rate of 82%. The NOK usually weakens vs the USD by 0.3%,with a hit rate of 100%. The SEK weakens by 0.4% with a hit rate of 91%. Not too bad. Looking at EUR/USD intra-day, it has always paid o to buy USD at 07:30 in the morning and sell the USD at 17:15 in theEuropean afternoon.

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Table 1: G10 currencies (vs USD) on SOMA days

US debt ceiling binding by March 1, X-date after the summer

The 2019 debt ceiling is worth revisiting, now that the Democrats have taken control of the House ofRepresentatives in a “blue trickle”. The public debt ceiling is currently suspended until March 1, 2019 duringwhich period the Treasury “may not issue obligations during the suspension period to increase cash balancesabove normal operating balances”. The interpretation is that the US Treasury, who is forecast to haveUSD410bn in its cash account with the Fed around year-end, will need to draw down this balance by morethan USD200bn in the run-up to March 1. This will flood the private banking system with excess liquidityin a temporary level shift (until the debt ceiling is hiked or abolished).

The cash balance dropped much more in 2017 (implying a greater liquidity surge and a larger eect onmarkets), but the US Treasury expects the cash balance in March 2019 to be “significantly higher” than itexperienced in 2017.

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Chart 1: Debt ceiling date consistent with a temporary boost to US excess liquidity

Beyond March 1, the US Treasury will be able use “extraordinary measures” to keep the government afloat,but will likely run into a so-called X-date sometime after mid-summer of 2019 (after which it may have todefault on its debt)(BPC).

The bottom line from the debt ceiling is that excess liquidity, which has dwindled throughout 2018will temporarily surge in Q1, 2019. This may help undermine the USD, narrow xCcy basis swaps, weigh onLibor rates and also push Swedish Stibor rates higher in 2019.

We though still find the timing a little too early to bet on the EUR/USD upside as another test of the 1.13level may be looming this week. We still expect that level to hold the test (FX weekly: 1.13 to hold unlessrepublicans keep both chambers).

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Chart 2: Swedish Stibor rates could jump as a result of the US debt ceiling(!)

What’s going on with oil prices?

Oil prices have plunged 20% from the highs in early October, and while some has hoped the plunge wastemporary owing to the upcoming US midterms (as eg the POTUS had tweeted about oil prices being toohigh), oil prices have weakened furthermore after the election.

When we decompose the drivers of oil into a demand component and a supply component using aneconometric approach, we find that oil demand has weakened somewhat since this summer. The lion’s shareof the recent downdraft must thus be attributed to supply.

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Chart 3: Oil demand has weakened since the summer according to our oil pricedecomposition

Moreover, the backwardation which was present only a month ago has disappeared and been replaced withcontango (suggesting an inventory overhand and/or surprising demand weakness). We’ve been arguing forsome time that that the US yield curve, the money market curve (ED$), as well as recent underperformanceof cyclical equities and of small caps have been consistent with a late-cyclical outlook and weaker globalgrowth. We now think we can add oil price developments to the mix!

Swedish inflation is high, but everything else is going down the drain

EUR/SEK fell below the 10.28 level following some hawkish, but not unexpected, headlines from an openhearing of the Riksbank (Flodén, Ingves) in the Riksdag. As a result, our negative SEK view has been apainful one. As for October inflation – the most important release next week - we have a view in line withthe consensus: October CPIF preview: A small step up. Swedish politics is also heating up next week as thecountry may get a new government on Wednesday. Such an outcome would be SEK-positive but seemshighly unlikely. See here.

Our forecast is that Riksbank lifts rates by 25bp in December, but we do note that Q3 was probably a veryweak quarter – possibly with shrinking GDP (Q3 GDP is due November 29). Household consumption havebeen lousy, export growth weak while there are question marks relating to capex growth.

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Chart 4: Swedish Q3 GDP could be really weak

The orders-to-stock ratio suggests a further and significant downturn. Indeed, the Riksbank has neverlifted interest rates with the PMI order-to-inventories ratio as weak as it is today. We also note thatthe Riksbank in October had not been this uncertain since April 2017 (measured on how often it expressesuncertainty in its minutes). A largely priced-in December hike might not be a done deal after all.

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Chart 5: Riksbank usually cuts rates with this weak an outlook for the PMI

NOK: Watch out for a big tax payment

Our long NOK/SEK position has suered in recent weeks, despite the outlook of very tight structuralNOK liquidity in the coming weeks. A big tax payment rolls in, which will decrease the amount of liquidityin the Norwegian commercial banking system (and concordantly increase the cash balance of the NorwegianGovernment at Norges Bank). On a 3-month rolling average the liquidity will decrease by roughly 10bn NOK(see chart 6).

Could these liquidity developments be the reason why NOK has not suered more, given the negative oilprice developments described above? We tend to think so. This also leaves a very vulnerable NOK outlookfor late November and December once the structural liquidity in NOK starts to increase again.

We keep a long NOK/SEK bias this week but look for possibilities to enter short NOK positions into December.

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Chart 6: Is the shrinking excess liquidity the reason why NOK doesn’t suer more (yet)?

GBP: Time to go short the Sterling again?

It’s been a tricky few years trading the GBP, as news flashes from the ongoing Brexit negotiations have oftendominated other more predictable factors for the GBP. It has though throughout this period consequentlyworked to call out the GBP-consensus when it became too crowded in either direction.

We like to measure the short-term consensus crowdedness as the dierence between EUR/GBP spot andthe 1yr risk reversal. Every time EUR/GBP spot has moved swiftly without any concordant move in the riskreversal, the consensus seems to have gotten a bit ahead of itself in both directions (see red boxes in chart 7).Short-term consensus is now too optimistic on the GBP (again).

With downside risks to both the inflation and retail sales reports this week (on our models), we decide to tryand call out consensus again via a long EUR/GBP position.

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Chart 7: Since 2016, a big gap between spot and the risk reversal in EUR/GBP hasindicated a crowded positioning

Rest of G10 FX: NZD is still a better case than AUD

We prewarned of the risk of RBNZ and RBA expressing a larger degree of trust in wage growth models, ascentral banks elsewhere have suddenly started to sound more upbeat on the good old Philips curve (Fed, BoEand partly ECB to name a few).

RBA took a light step in that direction by acknowledging that “…the recent increases in wages growthin other advanced economies may indicate that some of these ‘global’ factors are starting to abate, or canbe oset by suciently tight labour market conditions.” (RBA Policy Statement – page 72), while the RBNZmore clearly changed stance as a result of the recent global wage growth optimism by removing thephrase that the next move in the OCR could be “up or down”. This should be read as an early signal thatthe bias is now for a move “up” within the RBNZ.

These changes in the RBNZ statement were probably even agreed upon before the labour report surprisedmassively on the positive side with i) lower unemployment rate (3.9% versus 4.4% consensus), ii) Aparticipation rate of 71.1% and iii) higher wages growth.

This also means that the rate path from RBNZ did not include these positive surprises and given that theynote in a positive risk scenario on inflation that if i) “annual non-tradables inflation initially rises byaround 0.5 percentage points more over 2019 than in the central projection” then ii) “the OCR is around 70basis points higher than in the central projection” upside risks to the RBNZ outlook are still intact (RBNZ

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

policy statement - page 10) If we do our math correctly this implies a 14 basis points higher end-point for therate-path for every 0.1 percentage point positive non-tradable inflation surprise in 2019.

And even though we admit that a chart like the one below can be re-created in almost any G10 economy, i)RBNZ is probably the G10 central bank that still holds the most dovish view on inflation (compared to theoutlook) and ii) NZD is currently the most hated G10 currency by non-commercial positions. This leavesupside risks for the NZD. We continue to favour such a bet against the AUD.

Chart 8: Looking solely at wage surveys, upside risks are material to the RBNZ inflationforecast

Given the late-cyclical mindset of markets, we are still looking to re-enter short AUD positions elsewherealso.Despite taking a slight step in the direction of putting more trust in global wage developments, it wouldstill be out of the ordinary to see the RBA moving towards a rate hike in the present commodity environment.Usually the CRB commodity index needs to be up by 10% year on year, before the RBA considers a hike.Currently we are still some way below that.

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

Chart 9: RBA usually doesn’t hike unless the CRB commodity index is up by 10% year onyear

 

Previous FX weeklies:

·FX weekly: 1.13 will hold unless the Republicans keep both chambers (04 Nov)

·FX weekly: HIA, SOMA and REBA-days (28 Oct)

·FX weekly: The debt ceiling is a USD ceiling (21 Oct)

·FX weekly: Volatility makes odd bedfellows (14 Oct)

·FX weekly: No Di-Maio'nnaise for your EURs (yet) (7 Oct)

·FX weekly: Along came year-end (30 Sep)

·FX weekly: Twin deficit scare #2 (23 Sep)

·FX weekly: The Pope of Nope has spoken! (16 Sep)

·FX weekly: Who wants to impeach a +60 ISM president? (09 Sep)

·FX weekly: It is time to go long Scandis again (02 Sep)

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

·FX weekly: The Conte-Trump alliance (26 Aug)

·FX weekly: Fat-burning shorts (19 Aug)

·FX weekly: Time to call in Steven Seagal(12 Aug)

·FX weekly: Is the cyclical momentum over-priced? (05 Aug)

·FX weekly: How to trade a cease-fire? (29 Jul)

·FX weekly: What's that curve? (22 Jul)

·FX weekly: The China Factor (15 Jul)

·FX weekly: Take a short trade war breather (08 Jul)

·FX weekly: Trump will never #238 (01 Jul)

·FX weekly: The USD is the best carry currency in the world (24 Jun)

·FX weekly: Dollar to provide headwinds for earning estimates (17 Jun)

·FX weekly: Fire and fury risks for the USD (10 Jun)

·FX weekly: It's not only Italy.. (03 Jun)

·FX weekly: The Sumo SOMA days (27 May)

·FX weekly: EM won't be sprinting, if the Fed is unprinting (20 May)

·FX weekly: The two final nails in the dovish FOMC-con (13 May)

·FX weekly: Is there anything left in the USD bull-run? (06 May)

·FX weekly: Dragon Energy (29 Apr)

·FX weekly: Relative curvature is the new king of FX (22 Apr)

·FX weekly: Why is EUR/USD not trading lower? (15 Apr)

·FX weekly: Like watching paint dry, they said (08 Apr)

·FX weekly: The list of potential USD-positives is getting longer (01 Apr)

·FX weekly: 2 reasons why EUR/USD has decoupled from rates spreads (25 Mar)

·FX weekly: Time to buy a USD lottery ticket? (18 Mar)

·FX weekly: Taxation mirror on the wall, who is the fairest of them all? (11 Mar)

·FX weekly: Trump's game of chicken (04 Mar)

·FX weekly: Will the market neglect the clutch of canaries? (25 Feb)

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

·FX weekly: Is the correlation break-down driven by FX hedges? (18 Feb)

·FX weekly: The liquidity tide is ebbing (11 Feb)

·FX weekly: Hawkish spectacles (04 Feb)

·FX weekly: Who will stop EUR/USD from moving higher? (28 Jan)

·FX weekly: Did the Democrats dent the Dollar? (21 Jan)

·FX weekly: Is 1.25 the new 1.20? (14 Jan)

·FX weekly: The euphoria rises (07 Jan)

·FX weekly: Paging Dr. Pangloss (01 Jan)

·FX weekly: The R-star of Bethlehem (24 Dec)

·FX weekly: A numbers game (17 Dec)

·FX weekly: The year-end liquidty shrink (10 Dec)

·FX weekly: Three reasons why EUR/USD isn't trading lower (03 Dec)

·FX weekly: Which currencies to sell if the housing downturn continues? (26 Nov)

·FX weekly: The global industrial cycle is set to weaken (19 Nov)

·FX weekly: Is high-yield a canary in the global coal mine? (12 Nov)

·FX weekly: Is this the end of the inflation convergence trade in EUR/USD? (5 Nov)

·FX weekly: Was that it for the EUR bulls? (29 Oct)

·FX weekly: Hawks in opposition, doves in charge (22 Oct)

· FX weekly:Continued convergence or re-divergence?(15 Oct)

·FX weekly: Thingsdon't matter until they do(08 Oct)

·FX weekly:"October seasonality is strong" (01 Oct)

·FX weekly:“Is 1.20 the new 1.15?”(24 Sep)

· FX weekly:Honey, I shrunk the balance sheet(17 Sep)

· FX weekly: “USD liquidity will turn scarcer, but when?” (10 Sep)

· FX weekly:“Strong currencies and inflation”(3 Sep)

· FX weekly:“USD in the (Jackson) hole” (27 Aug)

· FX weekly:“Q4 is the USD quarter”(20 Aug)

e-markets.nordea.com/article/46678/fx-weekly-another-soma-test-of-1-13

· FX weekly:“In the year 2525”(13 Aug)

· FX weekly:“EUR/USD ceiling or debt ceiling?”(6 Aug)

· FX weekly:“Elevator up, stairs down “(30 Jul)

· FX weekly:Trump “spices” up EUR/USD(23 Jul)

· FX weekly:Flip-flop?(16 Jul)

· FX weekly:Consolidation time?(9 Jul)

· FX weekly:Hawks R Us(2 Jul)

· FX weekly:Another lowflation week?(25 Jun)

· FX weekly:No Fed put?(18 Jun)

· FX weekly:A bouncy dollar?(11 Jun)

· FX weekly:Heating up(4 Jun)

· FX weekly:Summertime sadness(28 May)

· FX weekly:Special counsel lessens Trumpbulence, while OPEC looms(21 May)

· FX weekly:Are China worries old hat?(14 May)

· FX weekly:Inflation week…(7 May)

Martin EnlundChief AnalystMartin.Enlund@nordea.com

Andreas Steno LarsenGlobal FX/FI Strategistandreas.steno.larsen@nordea.com+45 55 46 72 29

 

Nordea Bank Abp, Satamaradankatu 5, FI-00020 NORDEA, Finland http://www.nordea.com

 

   

 

 

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