Macro and Vol Commentary
The latest inflation reading from the U.S. was 9.1%, initial reaction pushed EURUSD below parity last week.
Economic data
- European economic data continues to deteriorate, and the euro has come under increasing pressure, compounding inflationary risks.
- CPI in June was 8.6%, and M/M data increases were 0.8%; core inflation is still above target at 3.7%. The weaker currency will prompt inflation to remain high in the near term as the bloc import most of its resources, and commodity and shipping prices remain high.
- Interest rate hikes will have no bearing on the crisis in Ukraine and China’s COVID policy impacting the supply chains; therefore, inflation will remain sticky.
- Commodity prices have declined from the highs, which will take some time to filter into the economy, but energy costs will be high in the winter of 2023, which will keep inflation higher.
- Investor, consumer, industrial, economic, and services confidence is all on the downturn in Europe; this has seen all indicators decline. The softening sentiment has heavily impacted the view with Eurostoxx falling, in line with the declines in the euro.
- There remains a high level of harmful economic data to be released for Europe, and this will mean further downside for the EURUSD, especially with the USD Fed futures and interest rate swaps outlining an even stronger dollar and higher rates in the U.S.
- This weak data and comparatively lower rates in Europe will continue to hamper sentiment and price action.
- PMIs are still expansionary, with services and composite at 53 and 52, respectively. Manufacturing PMI is also expansionary, which provides upside to the economy, but new orders are dragging; in our opinion, the PMIs will continue to decline.
- Employment data is still strong, and this is a bright spot for the economy. Still, the ECB will need to raise rates sharply to try and counteract some negative pressures on the economy, and high employment allows them to move quickly.
- Employment is 2.9% Y/Y and 0.6% Q/Q. A slowdown in employment will highlight stagflation and a recession, and we could see this sector weaken as companies look to save costs before the winter in 2023.
- Unemployment is at 6.8%, and weaker aggregate demand softens the employment outlook. Still, retail sales in May were marginally positive at 0.2%. Still, we expect this data to be negative in the coming months. Lower consumption and high input costs will continue to squeeze margins, and therefore, employment will start to fall.
- Positioning data for the euro is low, with asset managers holding a net short of -24,277 contracts, which will continue to increase with weak data and poor risk appetite.
- German data continues particularly weak, with the trade balance negative for the first time since 1991; this outlines weak demand for German goods from Europe, the U.S. and China. This weak data highlights the state of the European economy, weaker growth in the bloc is a certainty, and we could see a technical recession in Europe in 2022, whereas our base case for the U.S. is currently 2023.
- EURUSD will move below 1, and at this time, there is nothing to suggest it will stop there; weaker data, sentiment, lower rates, and the prospect of a recession sooner rather than later will keep EURUSD low, with some options positioning suggesting 0.95.
- However, we expect a short covering, which could coincide with the ECB raising rates into positive territory.
ECB
- The central bank increased its deposit facility rate by 50bps into neutral for the first time in more than a decade. However, the ECB provided little information in relation to forward guidance during its next meeting and the projection of rate hikes for the rest of the year.
- This has sent the euro lower, down to 1.0140.
- The market is expecting a 50bp move by the ECB in September but will recent inflationary pressure cause that to be brought forward? This could be unlikely due to the weaker data.
- Overnight swaps show December data at 1.5%, which is expected to increase to 1.7% in February 2023; however, we highlight prospects of weaker growth and the potential downside to rate hikes.
The Fed
- The Fed funds futures have increased to 2.418% as an implied rate in July, showing a suggested rate change of 0.834%; however, the overnight swaps indicate an implied rate of 2.421%, a change of 0.836%.
- This implies that the market is torn between 75bp and 100bp, and the inflation data came out today. We expect this to increase in the coming days before the Fed meeting. The implied rate for the U.S. and overnight swaps at 3.574%.
- High inflation will be sticky, but the low unemployment rate will aid the Fed’s ability to hike rates, but the market is already pointing towards slowing growth. Will the Fed slow to react to slowing growth as it did to inflation?
We expect EURUSD to rally with the sell-off overdone in the immediate term. This will prompt some short-covering and stops to be triggered; however, we favour selling this rally as the USD will remain strong from higher rates, better economic data, and a lower probability of a recession. We expect the EURUSD spot to continue to fall, certainly through 1 towards 0.98 in the near term. Vols remain high, and this will likely remain the case going into C.B. meetings; liquidity is better in the F.X. majors than E.M.s currencies and bonds.
(Sources: ECB, Eurostat, Fed, S&P Global, Bloomberg)
Volatility Commentary
EUR has fallen dramatically versus the greenback, by nearly 6 % over the last month. Inflation, rate hikes, growth concerns and energy crisis have been the major drivers, prompting a noticeable spike in options’ volatility, with the ATM 1-month volatilities jumping by approximately 2 Vols across the term structure. Further volatility is also expected to affect the currency pair, as we approach Central Bank interest rates decision, the market starting to price in a possible 100 BP hike at the next FOMC meeting, and wait to see how the energy crisis will unfold in Europe. Additionally, a weaker EUR is contributing to import inflation in EU, which might also be a concern for the ECB, which begs the question if it will intervene in the FX market. All in all, we expect USD to strengthen in the near term, on the back of higher rates and lower probability of recession when compared to the EU, and favour a structure benefitting from a further fall in EUR.
EURUSD 1-month Implied and realised Volatility
EURUSD Trade Idea
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Trade idea in 1-month Expiry (16/08/2022)
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Buy 0.9900 One-Touch in EUR 100K – Pay EUR 70K Circa.
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Sell 1.0200 EURUSD Call in EUR 5mio – Rec EUR 38K Circa
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Total structure premium net Receive EUR 32K circa.
Positioning Charts
USDBRL NDO Positioning Data 30/06/2022 - 07/07/2022
Volumes have been low in the week to July 14th, there upside options are scarcely traded but there are two call options traded above 5.50 with large notional values. Put options have a low notional value but have a range down to 4.90. The majority of the options traded were are due to expire before the end of August. The low volumes indicates a lack of conviction.
USDBRL NDO Positioning Data 07/07/2022 - 14/07/2022
USDCNY Vanilla Positioning Data 30/06/2022 - 07/07/2022
Chart 2 suggests that investors see spot pushing higher, call options have a range of 6.70-7.10. Comparatively, the put options traded have a narrower range of 6.60-6.80, the conviction rate is lower as notional values are smaller than call options traded on the upside.
USDCNY Vanilla Positioning Data 07/07/2022 - 14/07/2022
EURUSD Vanilla Positioning Data 14/05/2022 - 14/06/2022
Options positioning suggesting significant downside pressure, and the movement of spot below parity confirms this sentiment. The shift lower in put options traded, again, confirms of the sentiment to the downside. Puts trade down to 0.93 until October 2022 but as we move towards December there are some options trading below 0.90. Upside in the near term is limited, there are some calls trading up to 1.20 which are due to expire before September but this could traders selling options to gain a premium to fund a downside position.
EURUSD Vanilla Positioning Data 14/06/2022 - 14/07/2022
Charts and Tables
FX Expiries
Volatility Grid
Historical Spot FX Volatility (30D Rolling)
FX Matrix (today)
Weekly Change
Key Events & Releases
Technical Analysis
JP Morgan Global FX Volatility
The index has weakened from a recent high but found support today at 200 MA to now trade at 11.14. The stochastics once again have converged on the downside in the oversold, suggesting further downside pressures. The MACD diff, however, is negative and converging, suggesting we could see the index push higher in the near term. The indicators paint a mixed picture, but we expect the near-term support at 200 MA at 11.19 to hold today. If it holds true, the index could target 100 MA at 11.42 before 50 MA at 11.60. On the downside, the break below the robust support level could pave the way for 11.00. The moving averages are edging higher, providing support and resistance for the index. Support at 200 is likely to hold today.
Dollar Index
The dollar index has found support at 106.38 and has been trading range-bound in the last couple of sessions. Both bearish and bullish candles have not been well bid, suggesting there is a lack of appetite for prices out of the current range. The stochastics have converged on the upside, and the MACD diff is positive and diverging, suggesting we could see higher prices in the near term. To confirm this, the index needs to break above the 50 MA resistance at 107.59 before 108 and 109. On the downside, if weakness intensifies, we could see prices break below the 106.38 level to test 106. The most recent candle and indicators suggest we could see the index edge higher in the near term, but resistance at 50 MA is robust and needs to be broken above first.
EURUSD
The pair has improved in recent sessions but found resistance at 1.0277 and now stands at 1.0160. The stochastics are falling towards the oversold as the MACD diff is negative and diverging, suggesting we could see the pair push lower in the near term. The index needs to hold above 50 MA at 1.0123 before targeting 100 MA at 1.0193. The reaffirmation of support at that level and a test of 1.0277 would suggest strong upside potential. On the downside, rejection above 1.02 could trigger a break of support at 50 MA towards back to parity, the recent lows. The double top formation over the last couple of sessions suggests that near-term resistance is robust, and we could see prices edge lower. We expect the pair to soften in the near term, but 50 MA needs to be broken below first.
