Macro and Vol Commentary
Although the impact of the coronavirus on the US economy has been profound, the result of the upcoming presidential election in November is likely to have a significant impact on the global economy in the next four years.
Trump vs Biden Policy Pledges
- Trump's term has led to restricted trade and immigration, enhanced domestic agenda and departure from major alliances and treaties
- In his re-election campaign, Trump promised to fulfil his previous pledges
- Termination of the payroll tax
- A new Iran nuclear deal
- Plans to eradicate COVID-19 by introducing a vaccine by the end of 2020
- To revive the labour market, he plans to create 10m new jobs in 10 months
- He has also promised to build on the tax cuts he introduced in the first term
- Including credit to companies to keep jobs in the US rather than overseas
- Vice President Joe Biden, on the other hand, has differing opinions, looking to be more open in trade, immigration and cross-border investment
- Given a Democratic sweep, we would expect significant changes to economic policy
- Tax increases and fiscal stimulus are both on his agenda
- Undo Trump’s trade and immigration policies
- The infrastructure package remains a crucial goal for 2021 implementation
- Re-join Paris Climate Accord
- The idea of an increase in corporate tax has been put on hold, while the US economy is still in the recovery mode.
- Both candidates are likely to enact policy that will have a positive economic impact to revive the economy from the COVID-19 crisis
- This could support the dollar, at least in the short-term
- However, fulfilling campaign pledges depends mostly on the outcome in the Senate
- If the Congress remains divided, this could significantly dampen the outlook for the US economy
- Either result would leave the dollar weakening trend in place
- A Biden victory could accelerate this depreciation
- Either result would leave the dollar weakening trend in place
- Recent polls show a close tie between him and Joe Biden, adding uncertainty to the election results
- Now, more than ever, the farmer states, will be key to Trump's election results
- At the time of writing, according to the Guardian, six out of eight swing states lean marginally towards Biden
- Still, Trump can win Electoral College if he takes Pennsylvania and holds much of the states he won in 2016.
- At the time of writing, Democrats are slightly favoured to win the Senate and the clearly favoured to win the US House of Representatives, according to FiveThirtyEight
- Polls and betting odds all steadily point to Mr Biden winning enough Electoral College votes to take the presidency.
- The Economist forecasts that, in 92% chance, Joe Biden will win the electoral college, and, in a 99% chance, he will win most votes
- According to the FiveThirtyEight forecast, Democrats have a 72% chance of winning a federal government trifecta: a situation where a political party controls both the executive and the legislative branch
The current pandemic and an uncertain economy have added new importance to an already volatile US election cycle. However, the key outcome is largely straightforward: the overall government election outcome will matter more than any candidate's success, as a divided/unified government will be a better predictor of future policies than the winning party. A possibility of result uncertainty on the election day is highly likely and could fuel market volatility in the short-term. With states reporting record-breaking numbers of voters requesting mail-in ballots, we remain cautious about election outcomes.
Unsurprisingly shorter date vols are rising ahead of the US election as it gets priced into these expiries, the night itself may be a little bit different however. With the surge in mail in voting due to the Coronavirus pandemic we may not see the usual declaration of a winner on the night with states potentially taking a few days or even weeks to announce their result. With Amy Coney Barrett now confirmed to the US Supreme court President Trump has locked in his 6-3 conservative majority, which may embolden President Trump to contest the election result with the court should results look close and not in his favour.
Below we plot non-cumulative one standard deviation moves around the fwd curve implied by option vols, for our example we’ve chosen to go with EURUSD and XAUUSD. As seen below we see not just volatility pricing in a wider bounds on the day immediately after the election but for wider bounds following, mostly in the immediate week after the election.
If we see a clear sign either from swing States declaring promptly or from exit polls that there will be a clear winner we’d expect to see vols come off, however if it looks like results are close and vice versa if results seem close and states are unable to declare promptly, especially if President Trump goes to the Supreme Court. Though not an exact guide as circumstances were different, during the Bush v Gore election in 2000 it was about a month after election date before the Supreme Court made a ruling on the election.
EURUSD option implied standard deviation move
XAUUSD option implied standard deviation move
EURUSD Vanilla Options September 28th to October 28th
Chart 1 below show a narrower range for vanilla options executed this month. Options executed are within a 1.10-1.30 range, there is little downside cover below 1.10, and the majority of options are executed above the market, this suggests we could see spot edge higher in the near term. The upside bias is evident from the cover above spot from 1.20-1.30. Chart 2 suggests that there was more bearish tilt which has changed in the September to October chart. We expect this to be the case going forward into and following the US election. The recent consolidation the flat price is noteworthy but we expect another move to 1.20 judging by the positioning.
EURUSD Vanilla Options August 28th to September 28th
USDBRL Positioning Data 21/10/20 - 28/10/20
Once again, there has been little activity in the options market this week for USDBRL. Near term options executed show two large put options with an expiry of next week, only one is relatively near the spot. There are some larger call options providing upside cover towards the end of November and one in January 2021 but we move to 2021 there is more downside cover suggesting some moderately bullish BRL sentiment in 2021.
USDCNY Vanilla Options 21/10/20 - 28/10/20
The option market shows a moderate tilted towards USDCNY strength, this could trigger a stronger USD in the near term. Spot has pushed back above 6.70 but upside calls show the market looking for cover as we move into the election week. The long term outlook for the dollar remains soft for all likely Presidential election scenarios but we could see a near term spike in the dollar from Biden and divided government or a Trump and divided government. There is little downside cover for the pair suggesting little appetite for CNY at this time.
Charts and Tables
Historical Spot FX Volatility (30D Rolling)
FX Matrix (today)
Key Events & Releases
JP Morgan Global FX Volatility Index
The index has gained ground in the in recent sessions, taking out resistance at 8.85 and the 200 DMA at 9.04. The stochasticas are rising and are overbought, outlining the bullish sentiment. The MACD diff is positive but converging, and if the index is to confirm the strong sentiment and bullish engulfing candle, the index needs to gain a footing above the 200 DMA in order to improve the outlook of a continuation of the trend towards 9.50. The 10 DMA is rising, outlining sentiment in the near term. The MACD diff is converging and the stochastic are plateauing suggesting we could see a correction to the downside through support 8.85, with secondary support at 8.50.
The market has been well bid in recent sessions, breaking above trend resistance and 93.50. The MCAD diff is npostive and diverging suggesting higher prices in the near term towards 93.797. The secondary resistance level stands at 94. This level has held firm in recent weeks, apprehension in the market at this level has capped the index on the upside. A break of this level would help confirm the break of trend resistance. Conversely, lack of appetite for prices between 93.50-93.80, could trigger losses back through the 200 DMA before targeting 93.276, with the psychological level at 92.50.
The market has weakened significantly in recent sessions, the MACD diff is neaive and diverging on the downside. The stochastics are oversold, and prices have been well supported at 1.17 in recent weeks. Selling pressure has been strong and if the band of support at 1.1685 and 1.17 holds firm, this could set the scene for higher prices back to 1.1764 and 1.1784. A break of support at 1.1685 could set the scene for lower prices towards 1.16 in the medium term. The longer term trend has seen the market consolidate between 1.17 and 1.19.