FX Matters August 2020 | Article – HSBC VisionGo
What you may have missed last month
- The Fed changes policy framework, targets 2% average inflation over time
- Global COVID-19 cases continue to rise
- Gold surpasses USD2,000 per ounce for the first time
Summary – The disconnect
In August, FX markets continued to be driven by shifting global risk sentiment, which, in turn, was moved by the prospects of additional stimulus, rising geopolitical tensions, and expectations for a COVID-19 vaccine. Virus cases continued to rise, while FX movements continued to be dominated by the “Risk On – Risk Off” (RORO) framework with strong equity performance seeing “risk on” currencies broadly outperform.
The US Dollar Index (DXY) ended August down 1.3%*. Despite rising geopolitical tensions between the US and China amid US President Trump’s executive orders, the first half of the month was rough for the USD. The USD continued its July slump against other G10 currencies, culminating in the DXY hitting a two-year low on 18 August. Furthermore, at the Jackson Hole Economic Policy Symposium, the Federal Reserve (Fed) announced a change to its monetary policy framework to target an average annual rate of inflation of 2%, likely contributing to additional DXY weakness into the end of the month.
The EUR rallied 1.3% against the USD in August. Through the first half of the month, the EUR climbed higher and touched a two-year high against the USD on 18 August. However, with mounting geopolitical risks and rising virus cases, the EUR struggled to rally higher and, consequently, pared gains with EUR-USD largely range-bound between 1.175 and 1.195 for the rest of the month.
GBP-USD rallied 2.2% in August. Like the EUR, the GBP had a strong start to the month and rose to its highest level against the USD since January on 18 August. However, the GBP was unable to hold onto the gains as a raft of geopolitical and Brexit risks began to come to the fore. Notably, comments from the EU Chief Negotiator Barnier that a Brexit “agreement at this stage seems unlikely” likely weighed on the GBP. Meanwhile, the Bank of England (BOE) left both its policy rate and QE programme unchanged but continued to stress the risks facing the economy.
Elsewhere: Gold – What goes up
At the beginning of the month, gold surged higher and broke above USD2,000 per ounce for the first time in history. In the first four trading sessions of August, gold surged 4.4% to an all-time high closing price of USD2,064 per ounce on 6 August. However, the rapid climb could not be sustained, and gold quickly tumbled back below USD2,000 per ounce and posted its worst oneday performance in seven years on 11 August, where the price fell 5.7% on the day. Gold ended August down 0.4%. Elsewhere, in the precious metals space, silver had a tumultuous month but ended up 15.4% in August.
US: USD keeps dropping
The US Dollar Index (DXY) ended the month down 1.3%. Throughout August, broader market sentiment continued to be driven by news relating to both a COVID-19 vaccine and the possibility of further lockdowns. Furthermore, US-China tensions increased amid the US administration’s national security concerns. Predictably, when the rhetoric between the two superpowers was particularly heated the DXY strengthened, and weakened when the tone was more conciliatory. However, in August, market participants remained far more watchful of potential stimulus talks, vaccine news, and the spread of the virus than US-China tensions.
The USD started August on the back foot as broadly positive risk sentiment swept through markets, with the USD falling to a two-year low against the EUR. Weakness in the DXY was partly driven by “risk on” sentiment aided by improving economic data such as declining initial jobless claims and rising factory orders. That said, on 7 August, the DXY climbed 0.7% as US July non-farm payrolls beat the consensus expectation of +1.3m with a print of +1.8m, potentially indicating the pace of recovery in the US had been underestimated. Throughout August, US policymakers continued to negotiate to try and pass an additional stimulus bill. Initially, talks between policymakers looked set to fail, and the size of the potential stimulus bill was gradually whittled down from an initial Democrat demand of USD3.5trn, and ultimately no deal was agreed at all, with both sides continuing to negotiate.
On 19 August, the Federal Reserve (Fed) minutes were released and revealed that the Fed continued to lack optimism about the potential path of the economy. The lack of support for more expansive policies such as yield curve control saw the USD rally in the aftermath of the release. Later, eyes turned toward the Fed Policy Symposium in Jackson Hole and on 27 August Fed Chair Powell announced that the Fed would modify its target to an average of 2% in the long run. Essentially, this will allow the Fed to run inflation above its 2% target, if inflation had previously been below target. The DXY initially fell on the news but quickly reversed losses to end the day flat.
Eurozone: The pandemic isn’t over yet
EUR-USD rose 1.3% in August. Throughout the first half of August, the EUR climbed against the USD relatively persistently as broader “risk on” sentiment carried the EUR higher. Despite a modest decline of 0.8% against the USD on 7 August, the EUR was able to hit a two-year high against the USD on 18 August. Thereafter, however, the EUR was unable to find a catalyst to climb higher and relinquished some of its earlier gains, largely spending the rest of the month range bound between 1.175 and 1.195.
During August, Eurozone data continued to offer positive surprises. Notably, France industrial production data for June showed an increase of 12.7% over the previous month when an increase of 8.4% had been expected. German and French Q2 GDP data showed contractions of 9.7% and 13.8%, respectively, which in Germany was better than the expected drop of 10.1%, and in France was in line with expectations, providing some evidence that the Eurozone contraction may be less severe than expected. Nonetheless, the slump in GDP was still the worst on record in both countries. Furthermore, on 21 August, the Eurozone Services PMI number was significantly worse than expected with a print of 50.1 compared to a consensus of 54.5; EUR-USD fell 0.5% on the day. Following the Federal Reserve (Fed) announcement at Jackson Hole on 27 August, EUR-USD initially spiked to 1.19 but quickly reversed its gains and ended the day down 0.1%.
The COVID-19 pandemic appeared to rear its ugly head once more in parts of the Eurozone. Notably, Spain and Italy both announced the closure of nightclubs and the imposition of additional lockdown measures as case counts started to accelerate. Similarly, the UK added France back onto its “quarantine list”, dealing another blow to the embattled European tourism industry. That said, the leaders of many European countries declared that the most draconian measures of lockdown would not be imposed again.
UK: Q2 GDP worst on record
The GBP rose 2.2% in August. On 6 August, the Bank of England (BOE) meeting was a quiet affair as the bank rate was held at 0.1% and no further expansions to the QE programme were announced. The GBP rose a modest 0.2% on the day, likely aided by comments from the BOE Governor Bailey, which suggested that while negative rates were “part of our toolbox”, the central bank does not currently have a plan to use them. However, in August, the GBP appeared to be driven by global risk sentiment and broader moves in the USD rather than idiosyncratic UK factors.
Economic data was mixed in August and showed that, whilst the economy was rebounding from the economic devastation caused by COVID-19, there was still a long road to travel for the economy to recover fully. For example, on 12 August, Q2 GDP data showed the economy contracted 20.4% over the previous quarter, the most on record. On a more optimistic note, monthly GDP data for June showed GDP bounced 8.7% over the previous month. Employment data for July surprised to the upside, with the ILO unemployment rate remaining near record lows at 3.9% when a rise to 4.2% had been expected. However, the news was not all positive as the number of people employed declined by 220k, and the claimant count rate increased to 7.5%.
In the face of the ever-closer Brexit deadline, the GBP continued to tick along nonchalantly, seemingly impervious to the continued lack of progress in the talks. A number of specific issues such as fisheries and the “level-playing field” continue to leave talks in a state of gridlock, with the EU Chief Negotiator Barnier describing the recent bout of Brexit negotiations as often feeling as if “we were going backwards more than forward”. On 21 August, comments from UK Brexit negotiator Frost stating that there had been “little progress” in talks likely weighed on the GBP, and the GBP fell 0.9% on the day. That said, both sides remained committed to continued negotiations, with the UK stating it was targeting a deal by the end of September.
Japan: The G10 underperformer – Abe resigns
It was a relatively quiet month for JPY-USD, which was range bound between 105 and 107. Notably, the JPY did appear more responsive to the yields on US Treasury bonds and, following the substantial increase in US bond yields on 11 August, the JPY depreciated 0.5% against the USD. The JPY clawed back some losses on 17 August when the currency appreciated 0.6% against the USD amid broad USD weakness, despite Japanese Q2 GDP data showing the worst slump on record with a decline of 7.8% over the previous quarter. The biggest one-day loss for the JPY was on 19 August when the release of the Federal Reserve (Fed) minutes revealed a pessimistic Federal Open Market Committee (FOMC) and broad USD strength prevailed.
USD-JPY climbed a further 0.5% following the announcement of the Fed’s framework shift; however, following Japan Prime Minister Abe’s decision to resign, the JPY posted its largest gain for the month and rose 1.1% against the USD on 28 August. Through the month, the JPY fell 0.1% against the USD and was the G10 underperformer for August.
China: Rising tensions can’t stop the RMB
The CNY strengthened 1.8% against the USD in August, despite rising tensions and increasingly harsh rhetoric between the US and China. Predictably, when tensions were highest, the CNY weakened and, when there was positive trade news, the CNY strengthened. For example, following the announcement of US President Trump’s executive orders on 6 August, the USD appreciated 0.2% against the CNY. Conversely, when White House Advisor Navarro commented on 17 August that the “Phase 1” deal remains “on track”, this likely helped the CNY appreciate 0.3% against the USD on the day.
The story of CNY strength continued in the second half of the month as the tone between the US and China became somewhat more conciliatory on trade. Likewise, continued “risk on” sentiment, which propelled global equities to all-time highs, likely helped the CNY climb higher. Rising tensions between the US and China on other matters failed to prevent the CNY climbing further. Following the Fed’s policy framework shift on 27 August, USD-CNY rose 0.1% but, thereafter, the CNY appreciated against the USD and hit a 7-month high against the USD.
Canada: The CAD climbs higher
The CAD was the third best performer in the G10 space and ended the month up 2.8% against the USD. This came against the backdrop of a weaker USD and rising oil prices. The best daily gain for the CAD was on 4 August when it climbed 0.5% against the USD alongside WTI crude oil prices, which rose 1.7% on the day. On the data front, GDP data for June showed the Canadian economy grew 6.5% over the previous month, which was substantially better than the expected increase of 5.6%. That said, Canadian GDP remained down by 7.8% on a year-on-year basis.
Australia: Stronger AUD on positive market sentiment
AUD-USD rose 3.3% over the month on the back of broadly positive sentiment and declining daily COVID-19 case counts in the previous hot spot in Victoria. On 4 August, the Reserve Bank of Australia (RBA) meeting was largely a non-event, albeit it did announce the resumption of purchases of government bonds with RBA Governor Lowe stating “further purchases will be undertaken as necessary”. The AUD ended the day up 0.5% against the USD as a rally in precious metals and other commodities helped the antipodean currency to climb higher. Thereafter, the AUD oscillated in line with the “Risk On – Risk Off” (RORO) playbook, generally climbing when sentiment was positive and falling when the mood turned sour
New Zealand: Dovish central bank
The NZD ended the month up 1.6% against the USD in August. Unlike its neighbour across the Tasman Sea, the Reserve Bank of New Zealand (RBNZ) was far more dovish than the RBA, and, on 12 August, announced an increase in its Large Scale Asset Purchase programme by NZD40bn – taking the maximum quantity of bonds the RBNZ could purchase to NZD100bn. This caught the market by surprise and the NZD ended the day flat, despite broader USD weakness. Furthermore, the reintroduction of lockdowns in Auckland following a 102-day virus-free streak likely added further pressure to the NZD as economic activity in the region was again threatened. In the last few days of the month, the NZD did pare its losses and managed to finish the month up modestly against the USD, as the Fed’s policy framework shift weighed on the USD more broadly. Despite this, the NZD did underperform many of its “risk on” peers in the G10 space in August.
Norway and Sweden: Scandies gain ground
The NOK finished August up 4.2% against the USD and was the best performer in the G10 space. Being a “risk on” currency, the NOK climbed against the USD in August and was likely also aided by the 4.6% rise in Brent crude oil prices throughout the month. On 5 August, the NOK had its best day with a rise of 1.5% against the USD and was probably aided by a 2% rise in Brent crude oil prices on the day. On 20 August, the Norges Bank left its key rate unchanged at 0% and Governor Olsen signalled it would remain there for “some time”. However, the Norges Banks’ projections still point to rate hikes in the coming years, a more hawkish forecast than many other central banks. The NOK climbed just 0.1% against the USD on the day, as wider concerns about the European growth story restrained gains. On the data front, Q2 GDP showed a 6.3% contraction over the previous quarter in Norway, which was notably better than the rest of Europe, and NOK-USD rose 0.5% on the day.
The SEK finished up 1.5% against the USD in August. Throughout the month, the currency appeared to have been driven by changes in global risk sentiment rather than idiosyncratic factors to Sweden, and, consequently, the SEK had a choppy month. The best one-day performance for the SEK occurred on 28 August when broad USD weakness and positive risk sentiment allowed “risk on” currencies like the SEK to outperform. Furthermore, Q2 GDP showed a decline of 8.3% over the previous quarter – a touch better than the expected drop of 8.6% – which might have helped further boost optimism toward the SEK.
Oil: The recovery continues
In August, oil prices continued to climb higher as the global economy reopened and WTI crude oil prices finished the month up 5.8%. The rise in oil prices was aided by improving expectations for the pace of recovery and continuously diminishing supply concerns. Furthermore, there was less volatility in daily price swings, with the largest daily price change arising on 12 August when prices climbed 2.5%. Despite oil product stocks remaining elevated, global oil inventories trended down over August – a sign of tightening fundamentals. In the second half of the month, as Hurricane Laura shut down the majority of production in the Gulf of Mexico, oil prices continued to advance, with WTI crude oil prices posting a 1.7% gain on 25 August. However, gains were capped by ongoing demand-side concerns related to the COVID-19 pandemic and the expectation that production capacity would be quickly restored.
Precious Metals: Above USD2,000 per ounce …for a while
Gold had a choppy August and ended the month down 0.4%. That said, August began strongly for gold, with the precious metal climbing above USD2,000 per ounce to an all-time closing high of USD2,063.54 per ounce on 6 August. Thereafter, however, prices were much more volatile, and, on 11 August, gold suffered a 5.7% decline (the worst slump in seven years) as news over a potential Russian vaccine and better-than-expected economic data led market participants to re-evaluate the likely pace of the economic recovery. Similarly, rising yields on US Treasury bonds reduced the incentive to hold gold over cash and likely further exacerbated the decline. Following the price slump, gold did manage to claw back some of its prior gains but struggled to climb back above USD2,000 per ounce. Following the Federal Reserve Chair Powell’s speech at Jackson Hole of a move to inflation averaging on 27 August, gold initially rallied on the day but quickly reversed its gains to finish the day down 1.3%.
Despite the fall in gold prices away from all-time highs, with rising US-China tensions, continued inflows into gold exchange traded funds (ETFs), and a weakening dollar, gold showed little sign of breaking sharply lower, despite the rally being blunted, and is still up around 30% so far this year. Silver had a similarly choppy month, posting a 14.9% drop in price on 11 August, which was the biggest decline since 2008. Nonetheless, silver prices ended August up 15.4%.