Dr Strangelove Redux
Geopolitical risk will continue to be closely monitored today as a strapping US Navy Armada moves within striking distance of North Korea. On cue, Dictator Kim Jong-un rolled out the big guns during a state parade and in defiance conducted a missile test launch; a failed one mind you.
With all the Military adventurism in play, those insidious wartime market correlations take force as the risk off theme grips markets. To what extent the markets need to price in geopolitical risk more actively into their psyche will likely drive nearer term sentiment. It feels like we are in the midst of Dr Strangelove Redux, as this game of chicken unfolds. But all kidding aside, there’s no question the world has become a more sensitive and scarier place in the last fortnight.
The market has tapered most of its long USD positioning over the past few months, so the big question is whether or not the short term trader views it a necessity to more actively price in Geopolitical risk. With the US Navy Armada positioned off the coast of North Korea, I suspect this will be well outside the USD bulls comfort zone, and there will be little significant opposition to a move lower. USDJPY has slipped to a five-month low in the Asian morning.
Gold has been one of the major safe-haven plays during the geopolitical storm. COMEX gold opened by printing a new 2017 high with the front end option bias showing the path higher. Despite all the cacophony, there has been tepid investor demand on the physical side as dealers are reporting that the traditional buying of one-ounce bars and gold coins have been tepid. But the longer this geopolitical uncertainty plays out, the more likely the gold game becomes a “self-fulfilling prophecy”, meaning higher prices, as traders and investors alike pile in and won’t want to miss the party if gold marches higher.
The Australian dollar is feeding off of last week’s jobs print and Trump’s comments regarding the USD ‘getting too strong’. The real question remains if there is sufficient synergy to move another leg higher. I suspect with global macro drivers on the back burner, the AUD’s fortune and misfortunes will be driven by commodity prices and global equity sentiment.
The narrowing in the French election polling is contributing to a high degree of anxiety for European investors, however, with the USD dollar wobbling on President Trump’s “USD getting too strong“ comments, there has been little eagerness to drive EURUSD below the 1.06 level. As election risk simmers, it is likely more a question of when, rather than if?
Bank Negara, in a timely fashion, has adjusted the rules for FX hedging provision. Registered non-bank entities will be allowed to hedge up to 100% of their underlying assets as well as to manage an additional 25% of FX exposures. This comes on the heels of the largest monthly offshore drawdown on record in the local debt market. With the bulk of the overseas withdrawals likely in reaction to the stringent FX regulations implemented late last year, and with the previous week’s changes to the FX hedging provision, the key question will be just how eager will fund managers be to re-engage and buy into the new proposal?
Turkish markets were focused on Sunday’s referendum results for a constitutional change, which allows President Erdogan sweeping legal power. While the opposition party CHP has announced it would demand a recount, the state-run Anadolu news agency reports 51.3% voted “Yes” to the changes vs. 48.7% saying “No”. Voter turnout was reported to be a staggeringly high 86%. The ‘Yes’ vote will have a positive effect on investor sentiment and the Turkish economy as a whole. Turkish assets offer some of the highest yields, and a ‘Yes’ vote will remove any level of political uncertainty and should be supportive of the Turkish Lira, as carry trade appeal should follow in tow.
US Treasury Report
In a much anticipated US Treasury FX report, the US has not named any major trading partner as a currency manipulator. And when questioning about his pivot on whether to call China a currency manipulator, US President Donald Trump, on Sunday, was saying on Twitter that China was helping with the North Korean problem. “Why would I call China a currency manipulator when they are working with us on the North Korean problem? We will see what happens!” All in all, the report made little waves however the US Treasury has adopted a more hawkish tone to FX intervention.
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