All
Blog
Case Studies
Industry News
Info Sheets
Market Analysis
Webcasts & Podcasts
Whitepapers & Ebooks

All
Procure-to-Pay
Payments Automation
Commercial Cards
Cross-Border
Virtual Card
Global payments
Risk management
Expense management

All
Reduce costs
Customize controls
Apply insights
Simplify processes
Mitigate fraud and risk
October 24, 2024
LinkEmailTwitterLinkedin

Market Brief: Risk Appetite Improves, Setting Dollar Back

The dollar is coming off a three-month high this morning as global risk appetite rebounds in light of a raft of stronger-than-expected third quarter earnings reports from the likes of Tesla, Renault, Unilever, and Hermes - companies that provide a good barometer for global demand conditions. Foreign exchange markets are seeing a rotation into alternatives to the greenback, oil prices are climbing, and equity futures are pointing higher, adding to a remarkable record of outperformance since the pandemic.

The euro is trading on a modestly stronger footing after business activity improved by more than expected in Germany, offsetting weakness in France. S&P Global’s composite purchasing manager indices showed private sector activity continuing to shrink in both economies in October, but Germany’s contraction eased slightly, with the services sector expanding more quickly while factories reported a slower descent. Odds on a plus-sized rate cut at the European Central Bank’s December meeting are backing off the coin-toss levels reached earlier in the session, with traders now estimating the likelihood of a 50 basis-point move at around 43 percent.

The pound is also climbing, ignoring a steeper-than-forecast deceleration in purchasing manager indices. S&P Global’s composite index slipped to 51.7 in October from 52.6 in the prior month, with the services sector falling more steeply than anticipated while manufacturing edged closer to the contractionary threshold at the 50 level. The currency seems to be gaining on a report, published in the Guardian newspaper, suggesting that new finance minister Rachel Reeves will increase borrowing activities in next week’s Autumn Budget, widening rate differentials against the euro, while helping boost the economic outlook. This comes after Governor Andrew Bailey yesterday said “Disinflation is happening I think faster than we expected it to, but we still have genuine questions about whether there have been structural changes in the economy,” before warning that “the whole question of growth is critical,” in helping determine the path of monetary policy.

Treasury yields are slightly softer after yesterday’s Beige Book survey again cast doubt on the “no-landing” outlook for the US economy. The anecdotal survey - which Jerome Powell has repeatedly drawn attention to in past appearances - showed growth remaining “little changed” in most Federal Reserve districts, while “Reports on consumer spending were mixed, with some districts noting shifts in the composition of purchases, mostly toward less expensive alternatives”. Labour market conditions eased, and the report included many references to slower hiring and cooling demand - symptoms typically associated with an incoming slowdown. Uncertainty related to the upcoming election was repeatedly cited as a reason to delay investment and buying decisions.

Ahead today, markets should ignore this morning’s US jobless claims number, but that doesn’t mean they will. Hurricanes Helene and Milton are still impacting areas across the southeastern United States, and the Boeing strike is skewing numbers in Washington, making the headline print largely useless for gauging underlying labour market conditions - but the same could be said ahead of the last two weekly reports, which both succeeded in moving yields around.

More broadly, the upcoming US election is beginning to overshadow all other considerations in foreign exchange markets. We expect a three-phased dynamic to play out over the coming month or two:

In the first phase - which has already been underway for several weeks - the risk discount applied to major US trading partners could grow in line with odds on a Republican sweep. The Mexican peso, Canadian dollar, Chinese yuan, and euro have already come under sustained selling pressure, and are exhibiting high levels of intraday volatility as the race tilts toward a “Red Wave” in both houses of Congress and the White House.

In the second, beginning on election night, markets will be thrust into limbo as the vote counting process gets underway. In a number of swing states, including Pennsylvania and Wisconsin, workers aren’t permitted to begin processing absentee and mail-in ballots until election day, and staff turnover - exacerbated by misinformation, conspiracy theories, and direct political attacks - will likely slow the process in many counties. If the race is close, it could take days, or even weeks to project a winner - and in currency markets, this could create a trading dynamic that resembles the old aphorism about war: “long stretches of boredom punctuated by moments of sheer terror”.

In the third and last phase, markets will adjust to a new reality, taking cues from the victor’s statements to determine whether pre-election positioning should undergo further calibration. If Harris wins, this should bring a calming in underlying volatility measures, an unwind in long-dollar bets, and a recovery in currencies issued by major US trading partners. If Trump emerges victorious, it is possible that - unlike 2016 - something similar might occur as investors ratchet down overwrought expectations for an immediate positive boost to the US economy and a hit to global trade - and risk appetite could suffer as hopes for a gridlocked political system are dashed. Beyond that, it is important to note that the global economy is incredibly complex - a Trump victory could easily unleash a series of shocks that ultimately drive the dollar lower, not higher - leaving us to conclude that the only high-probability outcome is a return to more elevated volatility levels.

The Canadian dollar is climbing off yesterday’s two-month low, reached after the Bank of Canada delivered on consensus expectations with a half-percentage-point rate cut, demonstrating a desire to bring rates down to neutral more quickly. In the post-decision press conference, Governor Tiff Macklem said “It’s been a long fight against inflation, but it’s worked,” and odds on another jumbo-sized move at the Bank’s December meeting climbed when he said “Now our focus is to maintain low, stable inflation. We need to stick the landing”.

We’re Canadian dollar hipsters - we were bearish long before it was cool - but the Bank also provided reasons to suspect that downside risks are becoming more limited. Officials noted an improvement in global demand and financial conditions, and forecasts embedded in the Monetary Policy Report were consistent with a more gradual easing trajectory ahead: staff economists see growth climbing back to 2.1 percent and inflation running at around 2.2 percent next year.

Just as one should never bet against the US consumer, one should never underestimate the Canadian real estate speculator. We think the Bank’s aggressive easing trajectory, taken in combination with the federal government’s recent efforts to boost housing affordability, could help fuel a stabilisation in Canadian real estate markets. Home prices fell materially in inflation-adjusted terms in 2023, but seem to be holding at elevated levels thus far this year.

And wealth effects are still significant: in real terms, home prices are still up 23.9 percent from 2019, and nominal household wealth is up 37.6 percent from pre-pandemic levels. It is far from evenly distributed - and is concentrated among households with a lower marginal propensity to spend - but there is a lot of fuel available for consumer consumption that could be unlocked in the event that sentiment shifts in a positive direction.


Economic Calendar

About the author

Karl Schamotta

Karl Schamotta

Chief Market Strategist

Gain insights into developments in global currency markets.bar graphSubscribe