Sterling has ripped over a percentage point higher this morning due predominantly to the broad USD move. Expectations have barely moved for the Bank of England’s announcement at the end of the month, despite swap markets continuing to price aggressive cuts by central banks globally. The implied probability of a 25 basis point cut by the BoE still sits just shy of 100% with the upcoming budget in scope. Markets also appear to be anticipating at least some possibility of the Bank of England being forced into sovereign asset purchases: the yield on two-year UK sovereign debt has fallen into the negatives for the first time in history. With a large fiscal windfall and potentially lower rates on the cards, the pound is rallying along with the euro this morning. The same cannot be said for UK equities, with futures pricing a 9% drop in the FTSE100 this morning with oil companies such as Shell and BP set to lead losses. The main focus this week for British investors, however, will be Chancellor Sunak’s first budget speech after replacing Sajid Javid only 27 days prior. Mr Sunak has hinted that he could make the UK’s fiscal rules more flexible as he prepares to provide funds to fight the coronavirus through targeted measures.
The euro continued its rally against the dollar as fears of an outright recession resulting from the coronavirus outbreak gripped markets. The dollar has performed poorly in this environment as US yields tumble and expectations of Fed cuts rise, paving the way for a EURUSD rally. The plunge in oil prices following announcements from Saudi officials that they would raise production after OPEC+ talks failed last week has added to the dollar’s slump. Further euro strength may be stemming from an unwind of carry trades and safe-haven flows, with the euro rallying against all emerging market currencies this morning. Responding to the global slowdown, Germany announced a fiscal boost of €12.4 bn to execute between 2021 and 2024, along with pledges to support companies in offsetting wages by imposing short-term wage compensation. Although the move is significant in the light of previous resistance to the idea of fiscal support for the economy, the budget is still below expectations and is not enough to curtail the expectations that the European Central Bank will cut rates on Thursday, with markets currently pricing in a 10 bp cut and an accumulative 25 bp for 2020.
If the dollar thought its problems last week were bad when US equities continued to plunge and yields hit fresh record lows, last night’s open in Asia would suggest it is only the start. Oil markets slumped over 30% on open, marking the largest slide since the US war with Iraq in 1991, as Saudi officials planned to open the taps after Russia refused to support the cartel’s plan to cut oil production by a further 1.5m barrels per day last week in Vienna. Russia’s gambit to shake shale production out of the market arguably backfired as Saudi Arabia called an all-out price war, announcing production next month will be well above 10m bpd and may even hit a record 12m. The largest slide in oil markets in decades comes shortly after oil’s worst week since the financial crisis last week. Goldman Sachs analysts wrote that the prognosis for oil markets is even direr than 2014, when a price war last started, as the shift in supply conditions is coupled with a significant collapse in demand due to the coronavirus. The spill over hasn’t just impacted the dollar, which is taking on heavy water this morning against havens such as JPY and CHF but also the euro, equities and treasury markets alike. S&P 500 futures are down 5% this morning prompting a trading curb while the US 10-year treasury fell below 0.5% for the first time in history. The collapse in oil markets threatens national budgets reliant on oil revenue and also throws a curveball at central bankers already navigating the effects of the epidemic, especially in the US which is now a net oil exporter due to the shale market. The rise of the US shale industry also threatens the Fed’s pre-existing plan to support the economy against the coronavirus as further deflationary shocks enter the paradigm along with further output risks. The last time oil prices went as low as $26, the US shale industry collapsed and contributed to a manufacturing recession in the US in 2016. Swap markets are now fully pricing in a 75bp cut by the Fed next week, however, the latest developments pose the possibility of another inter-meeting cut by the central bank.
The collapse in oil markets over the weekend has sent the loonie into a tailspin this morning, with the currency falling over 1.5% against its US counterpart. However, the loonie has not succumbed to market pressures as much as the Norwegian krone, which currently sits over 3% lower against the US dollar and 4.5% lower against the euro. The loonie could be set to trade at a lower level for longer should the price war continue to drag on oil markets, while the collapse in crude prices makes the picture clearer for the Bank of Canada who only last week cut rates by 50bp to shelter the economy from virus risks. Last week the BoC was locked in a tight place as it sought to give the growth a level of support through lower rates but ran the risk of inflating house prices further. We argued in our week ahead that this meant the floor for rates was higher in Canada than the US, but developments in oil markets have since reduced the weight of this argument. This week the data calendar is light for the Canadian dollar, which only increases the focus on fixed income and oil markets to dictate the currency’s value.