CAD
FUNDAMENTAL BIAS: NEUTRAL
1. Monetary Policy
In Dec the BoC left rates at 0.25% as expected and maintained forward guidance where it expects rates at current levels until the middle quarters of 2022. Even though the bank still thinks inflation will ease from 2H22, they did drop the term "temporary" when referring to price pressures, similar to the Fed’s drop of the word transitory. The bank took a slightly bleaker view on growth, pointing to both the new Omicron variant and flooding in British Columbia as possibly drags on growth and something that could elevate supply chain issues. What disappointed markets a bit was that the bank said none of the recent developments warrants any further adjustments to normalization, which disappointed the bulls looking for a possible hawkish tilt. The bank noted that employment is back to pre-covid levels, and economic momentum in Q4 were solid, but the overall tone wasn’t enough to convince markets of a 1Q22 hike, with market odds at roughly 50/50 for the Jan meeting. The recent Omicron restrictions is expected to hit growth in the first quarter, which means a hike in quarter 2 is more likely as the bank would arguably not be in too much of a hurry to turn overly aggressive given the divergence between the divergent government response to Omicron between the US and the BoC . Thus, we think the bank holds off with hikes until 2Q22, which means some of those aggressive policy bets (markets pricing in very close to 5 hikes for this year this past week) will arguably need to be pushed back and repriced.
2. Intermarket Analysis Considerations
Oil’s massive post-covid recovery has been impressive, driven by three drivers: supply & demand (OPEC’s production cuts); improving global economic outlook and improving oil demand outlook, even though slightly pushed back by Delta concerns; higher for longer than expected inflation . Even though Oil has recovered a lot of its recent downside and have proven our caution wrong, we are still cautious going into the first two quarters. The drivers keeping us cautious on oil right now is expectations of a
more hawkish Fed, slowing growth and inflation , and a possible supply surplus in 1Q22. If our concerns do materialize into downside for oil prices it should put pressure on the CAD. Recent supply constraints in Kazakhstan and Libya has aided oil this past week (alongside some higher inflation inputs), and if that continues it could provide continued short-term support for Oil though so worth keeping that in mind.
3. Global Risk Outlook
As a high-beta currency, the CAD benefited from the market's improving risk outlook coming out of the pandemic as participants moved out of safe-havens. As a pro-cyclical currency, the CAD enjoyed upside alongside other cyclical assets supported by reflation and post-recession recovery best. If expectations for the global economy remains positive the overall positive outlook for risk sentiment should be supportive for the CAD in the med-term , but recent short-term jitters are a timely reminder that risk sentiment is also a very important short-term driver.
4. CFTC Analysis
Latest CFTC data showed a positioning change of -691 with a net non-commercial position of -11025. A lot of the previous froth priced into the CAD has arguably been reduced. However, given our concerns about Oil as well as the bar for an aggressive policy response from the BoC looking less certain, we do think there is chance of some additional repricing for the CAD going into 2022, which is why we’ve shifted our fundamental outlook to neutral from weak bullish .
5. The Week Ahead
In the week ahead the calendar is very slim for the CAD with no tier 1 data points. The good jobs print on Friday provided some additional upside for the CAD, which had a decent start to the new year. However, as employment is often seen as a lagging indicator, as well as the newly announced covid restrictions in Canada, we do think the growth and employment situation in 1Q22 is facing some deterioration. For now, the markets have seemed comfortable with that and the CAD has been very resilient, but we are not sure how long that can continue.
JPY
FUNDAMENTAL BIAS: BEARISH
1. Monetary Policy
At their Dec meeting the BoJ kept policy mostly unchanged apart from unanimously voting to scale back emergency pandemic relief funding from March which includes tapering corporate bond and commercial paper buying, but they did also vote to extend a portion of the pandemic relief loan scheme to March for smaller firms. As always, the BoJ said they are ready to add additional stimulus and easing steps as the economy needs it. The bank reiterated that even though the economy has picked up it does still remain in a severe situation due to the COVID-19. The bank remains dovish and is unlikely going to change anytime soon.
2. Safe-haven status and overall risk outlook
As a safe-haven currency, the market's risk outlook is the primary driver of JPY. Economic data rarely proves market moving for the JPY; and although monetary policy expectations can still prove marketmoving in the short-term, safe-haven flows are typically the more dominant factor. The market's overall risk tone has improved considerably following the pandemic with ongoing monetary and fiscal policy support paved the way for markets to expect a robust global economic recovery. As the Fed and other banks start to normalize, we do need to remember that it means those fiscal and monetary policy support is being reduced, which could mean a lot more volatility for markets in the weeks and months ahead. Even though that doesn’t mean our med-term bias for the JPY has changed, it simply means that we should expect more risk sentiment ebbs and flows this year, and the heightened volatility can create some fantastic directional moves in the JPY, as long as yields play their part.
3. Low-yielding currency with inverse correlation to US10Y
As a low yielding currency, the JPY usually shares a strong inverse correlation to moves in yield differentials, more specifically in strong moves in US10Y . However, like most correlations, the strength of the inverse correlation between the JPY and US10Y isn’t perfect and will ebb and flow depending on the type of market environment from both a risk and cycle point of view. With the Fed tilting more aggressive, we think that opens up more room for curve flattening to take place with US02Y likely pushing higher
while US10Y underperform. In this environment we do see some mild upside risks for the JPY, but we should not look at the influence from yields in isolation and also weigh it up alongside underlying risk sentiment and price action in the USD of course.
4. CFTC Analysis
Latest CFTC data showed a positioning change of -9160 with a net non-commercial position of -62262. Even though the JPY’s med-term outlook remains bearish , the big net-shorts for both large speculators and leveraged funds always increases the odds of more punchy safe haven flows and mean reversion when risk sentiment deteriorates. However, despite risk sentiment taking a hit in the past trading week, the JPY has remained pressured as the move in US yields kept any JPY rallies in check.
5. The Week Ahead
In the week ahead the biggest focus for the JPY will be on overall risk sentiment with the big rally in risk sentiment going into the last few trading days of the year with S&P futures managing to squeeze out another all-time high and Nasdaq futures getting very close to doing the same. The big amount of upside has been mostly attributed to equities taking the path of least resistance ( med-term bias remains tilted higher) and moves was probably exacerbated by thinner liquidity and lower volumes. If that momentum can continue at the start of the new year, we can expect to see further downside for the safe haven JPY and will be a key focus for the currency for the week ahead. Apart from that, keeping an eye on US yields will be important as always.
FUNDAMENTAL BIAS: NEUTRAL
1. Monetary Policy
In Dec the BoC left rates at 0.25% as expected and maintained forward guidance where it expects rates at current levels until the middle quarters of 2022. Even though the bank still thinks inflation will ease from 2H22, they did drop the term "temporary" when referring to price pressures, similar to the Fed’s drop of the word transitory. The bank took a slightly bleaker view on growth, pointing to both the new Omicron variant and flooding in British Columbia as possibly drags on growth and something that could elevate supply chain issues. What disappointed markets a bit was that the bank said none of the recent developments warrants any further adjustments to normalization, which disappointed the bulls looking for a possible hawkish tilt. The bank noted that employment is back to pre-covid levels, and economic momentum in Q4 were solid, but the overall tone wasn’t enough to convince markets of a 1Q22 hike, with market odds at roughly 50/50 for the Jan meeting. The recent Omicron restrictions is expected to hit growth in the first quarter, which means a hike in quarter 2 is more likely as the bank would arguably not be in too much of a hurry to turn overly aggressive given the divergence between the divergent government response to Omicron between the US and the BoC . Thus, we think the bank holds off with hikes until 2Q22, which means some of those aggressive policy bets (markets pricing in very close to 5 hikes for this year this past week) will arguably need to be pushed back and repriced.
2. Intermarket Analysis Considerations
Oil’s massive post-covid recovery has been impressive, driven by three drivers: supply & demand (OPEC’s production cuts); improving global economic outlook and improving oil demand outlook, even though slightly pushed back by Delta concerns; higher for longer than expected inflation . Even though Oil has recovered a lot of its recent downside and have proven our caution wrong, we are still cautious going into the first two quarters. The drivers keeping us cautious on oil right now is expectations of a
more hawkish Fed, slowing growth and inflation , and a possible supply surplus in 1Q22. If our concerns do materialize into downside for oil prices it should put pressure on the CAD. Recent supply constraints in Kazakhstan and Libya has aided oil this past week (alongside some higher inflation inputs), and if that continues it could provide continued short-term support for Oil though so worth keeping that in mind.
3. Global Risk Outlook
As a high-beta currency, the CAD benefited from the market's improving risk outlook coming out of the pandemic as participants moved out of safe-havens. As a pro-cyclical currency, the CAD enjoyed upside alongside other cyclical assets supported by reflation and post-recession recovery best. If expectations for the global economy remains positive the overall positive outlook for risk sentiment should be supportive for the CAD in the med-term , but recent short-term jitters are a timely reminder that risk sentiment is also a very important short-term driver.
4. CFTC Analysis
Latest CFTC data showed a positioning change of -691 with a net non-commercial position of -11025. A lot of the previous froth priced into the CAD has arguably been reduced. However, given our concerns about Oil as well as the bar for an aggressive policy response from the BoC looking less certain, we do think there is chance of some additional repricing for the CAD going into 2022, which is why we’ve shifted our fundamental outlook to neutral from weak bullish .
5. The Week Ahead
In the week ahead the calendar is very slim for the CAD with no tier 1 data points. The good jobs print on Friday provided some additional upside for the CAD, which had a decent start to the new year. However, as employment is often seen as a lagging indicator, as well as the newly announced covid restrictions in Canada, we do think the growth and employment situation in 1Q22 is facing some deterioration. For now, the markets have seemed comfortable with that and the CAD has been very resilient, but we are not sure how long that can continue.
JPY
FUNDAMENTAL BIAS: BEARISH
1. Monetary Policy
At their Dec meeting the BoJ kept policy mostly unchanged apart from unanimously voting to scale back emergency pandemic relief funding from March which includes tapering corporate bond and commercial paper buying, but they did also vote to extend a portion of the pandemic relief loan scheme to March for smaller firms. As always, the BoJ said they are ready to add additional stimulus and easing steps as the economy needs it. The bank reiterated that even though the economy has picked up it does still remain in a severe situation due to the COVID-19. The bank remains dovish and is unlikely going to change anytime soon.
2. Safe-haven status and overall risk outlook
As a safe-haven currency, the market's risk outlook is the primary driver of JPY. Economic data rarely proves market moving for the JPY; and although monetary policy expectations can still prove marketmoving in the short-term, safe-haven flows are typically the more dominant factor. The market's overall risk tone has improved considerably following the pandemic with ongoing monetary and fiscal policy support paved the way for markets to expect a robust global economic recovery. As the Fed and other banks start to normalize, we do need to remember that it means those fiscal and monetary policy support is being reduced, which could mean a lot more volatility for markets in the weeks and months ahead. Even though that doesn’t mean our med-term bias for the JPY has changed, it simply means that we should expect more risk sentiment ebbs and flows this year, and the heightened volatility can create some fantastic directional moves in the JPY, as long as yields play their part.
3. Low-yielding currency with inverse correlation to US10Y
As a low yielding currency, the JPY usually shares a strong inverse correlation to moves in yield differentials, more specifically in strong moves in US10Y . However, like most correlations, the strength of the inverse correlation between the JPY and US10Y isn’t perfect and will ebb and flow depending on the type of market environment from both a risk and cycle point of view. With the Fed tilting more aggressive, we think that opens up more room for curve flattening to take place with US02Y likely pushing higher
while US10Y underperform. In this environment we do see some mild upside risks for the JPY, but we should not look at the influence from yields in isolation and also weigh it up alongside underlying risk sentiment and price action in the USD of course.
4. CFTC Analysis
Latest CFTC data showed a positioning change of -9160 with a net non-commercial position of -62262. Even though the JPY’s med-term outlook remains bearish , the big net-shorts for both large speculators and leveraged funds always increases the odds of more punchy safe haven flows and mean reversion when risk sentiment deteriorates. However, despite risk sentiment taking a hit in the past trading week, the JPY has remained pressured as the move in US yields kept any JPY rallies in check.
5. The Week Ahead
In the week ahead the biggest focus for the JPY will be on overall risk sentiment with the big rally in risk sentiment going into the last few trading days of the year with S&P futures managing to squeeze out another all-time high and Nasdaq futures getting very close to doing the same. The big amount of upside has been mostly attributed to equities taking the path of least resistance ( med-term bias remains tilted higher) and moves was probably exacerbated by thinner liquidity and lower volumes. If that momentum can continue at the start of the new year, we can expect to see further downside for the safe haven JPY and will be a key focus for the currency for the week ahead. Apart from that, keeping an eye on US yields will be important as always.