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Macro and Vol Commentary

EUR/GBP has struggled to break 0.86 in recent weeks but will this level break as the ECB tighten Monetary Policy.

UK Economy

  • GBP for Q1 was marginal at 0.8%, lower than expectations of 1%. However, monthly GDP suggests Q2 data will be contractionary, with March GDP at -0.1%, and we expect this trend to continue in April and May.
  • Despite weak economic growth, PMIs are still in expansionary territory. S&P Global/CIPS manufacturing PMI fell to 54.6 in May, from 55.8 in April.
    • This is the slowest growth in factory activity since January 2021; domestic demand was weak, and supply chains and higher input costs.
    • Output, new orders, and employment all increased but at a slower pace than in previous months.
    • Higher input costs from energy and food continue to squeeze margins; this caused selling prices to rise.
    • Business confidence was low, and consumer confidence also fell to -40, down from -38.
  • The S&P Global/CIPS construction PMI fell to 56.4 in May, down from 58.2 in April.
    • The loss of momentum was mainly due to a slowdown in the residential sector; the commercial category declined but not to the same extent.
    • New orders and job creation were strong, and so were the raw materials costs.
    • Construction output grew at 1.7% M/M for March, and we expect this data to be lower in April.
  • The S&P Global/CIPS Services and Composite PMIs are expansionary at 53.4 and 53.1.
  • Employment data has been rising, giving the BOE more room to raise rates. In April, the payrolled employees increased by 112k, and March unemployment stands at 3.7%.
    • The labour market is strong, and earnings have risen along with the tight employment market. Average hourly earnings are rising at 4.2% ex-bonus for March, and average hourly earnings stood at 7%. This is still significantly behind inflation, but there are still gaps in the labour market.
  • Consumer credit is rising, which will continue as inflationary pressures take hold. Credit growth was 5.7% Y/Y, and according to the Citizens of Advice Bureau, many young shoppers are using credit, an overdraft or family members to pay off buy now pay later payments.
  • CPI stands at 9% Y/Y and 2.5% M/M, and core inflation was 6.2% Y/Y. We expect these pressures to rise further in the near term as energy prices rise.
    • Metal and energy prices are set to rise further in the near term, putting pressure on the end-user.
  • The housing market is still robust, with house prices rising 10.2% Y/Y in May and 2.1% M/M; this positively impacts homeowners and improves confidence. However, flexible mortgage owners may feel the pinch of increased payments as mortgage rates increase.

Bank of England

  • A robust employment market gives the BOE room to increase rates at a strong pace. We expect this to continue in the coming months. The probability for rate hikes in June, August, September, November, and December is above 100%, with the implied rate at 2.481% in December 2022.
  • The change in tactics from the government to give aid to households for energy bills will provide consumers with more room to manoeuvre as well as put less pressure on the BOE to halt raising rates.
  • As of May 4th, the total stock of assets held in APF was £867bn and comprised £847bn of UK government bond purchases and £19.6bn sterling of non-financial grade corporate bonds, according to the Bank of England filings.
  • The MPC was briefed on the bank's plans to commence corporate bond sales in September 2022 and for corporate bonds held in the portfolio maturing on or before April 2024.

ECB

  • The hawkish tilt from Christine Lagarde would indicate a 50bp rate hike in July, this was not given, and the bank has stuck to its path of 25bps in July and 25bps in September.
  • The council members are expected to support a new bond-buying programme to help fund vulnerable eurozone countries.
  • There is a €200bn bond-buying facility to spend on purchasing stressed government debt under the existing programme, and the gap between the Italian and German 10yr has risen sharply above 2%.

Economic data in both the UK and Euro area is weakening with consumer and business sentiment fading, and this is expected to continue. The ECB will raise rates in the coming months but will remain negative until September. The BOE will continue along their current path, and this will boost sterling's chances against lower rate currencies such as the Euro, CHF, and JPY. However, the political backdrop is uncertain despite Boris Johnson winning the vote of no confidence on Monday 6th. Lower growth in the UK weighs on the currency against the USD, and we expect the euro to be bid into the July ECB meeting; we think a large proportion of inflation risk is priced into the euro. The bond market in Europe is screaming higher rates across the board, and we watch Italian, Greek and Spanish bond yield spreads against German bonds. We favour buying dips on EURGBP with an upside target for year-end at 0.87175.

(Sources: Bank of England, European Central Bank, UK Office for National Statistics, S&P Global )

Volatility Commentary

Persistent inflationary pressures are paving the way for a series of hiking cycles on both Central Banks fronts, exacerbating the fears of a recession and potentially stagflation, particularly on the UK space when this is coupled with fiscal and political uncertainty.


This could result in a pick-up in realised volatility over the one-month horizon and a stronger EUR, with the main catalysts being a weaker GBP and the exit of EUR rates from negative territory.
All in all, we are bullish on EURGBP, and favour buying EUR rallies over the short term.

EURGBP Trade Idea

Trade idea, Expiry 20/07/2022:

• Sell EURGBP Put, 0.85 Strike in EUR 10mio – Rec EUR 80k circa.
• Buy EURGBP Call, 0.86 Strike, 0.875 Knock-in Barrier in EUR 5mio – Pay EUR 25K circa.

Total structure premium Net Receive EUR 55K.

Positioning Charts

USDBRL NDO Positioning Data 25/05/2022 - 01/06/2022

Positioning data for USDBRL shows a options executed to have a higher notional value than the previous week but the market trades a similar range. There is still very little upside cover for the market despite spot rallying marginally. Call options executed have a lower notional value suggestion lack of conviction. There is a strip of options traded between 4.60 and 4.80 which are due to expire in October. Despite the bounce in spot there options market expects BRL to strengthen. 

USDBRL NDO Positioning Data 01/06/2022 - 08/06/2022

USDCNY Vanilla Positioning Data 25/05/2022 - 01/06/2022

USDCNY is showing more of a pattern in the week to June 8th, the options market has a moderate preference to the upside due to the large number of calls traded above spot. The range for calls is 6.70 to 7 with the majority of options expiring before August 8th. Put options traded indicate cover to 6.50 but in the immediate term there is little appetite for the downside. We expect USDCNY to firm in the near term with the options market. 

USDCNY Vanilla Positioning Data 01/06/2022 - 08/06/2022

EURGBP Vanilla Positioning Data 08/04/2022 - 08/05/2022

EURGBP has struggled to break above 0.8600 in recent sessions but the options market is significantly favourable to the upside with calls trading in a range of 0.86-0.90. The majority of trades are between 0.85 and 0.88, the market is expecting gains in the near term with little downside cover. Puts traded stand at 0.84-0.86 with few options due to expire after July 8th. The options market after July has a skew towards the upside as well. 

EURGBP Vanilla Positioning Data 08/05/2022 - 08/06/2022

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 gained ground so far in June, breaching 10.20 levels to find resistance at 200 MA today. In the last couple of days, this level has been robust, and the pair fell marginally to 10.27. The stochastics are falling towards the oversold, and the MACD diff is negative and diverging, signalling a change of momentum in the near term. The gains have not been well bid, and the most recent candles struggled above 200 MA at 10.41, indicating potential momentum on the downside. If support at 100 MA at 10.11 is broken, we could see the index edge lower through the 50 MA level to 9.8892. On the upside, if support at these levels holds firm, it could trigger gains back to 10.50 and 10.90. The indicators and resistance at 200 MA to a change of momentum, and we expect the pair to weaken in the near term.

Dollar Index 

The index rallied sharply today, breaching resistance at 103, and is now trading at mid-May levels at 104.04. The stochastics are diverging on the upside, with %K/%D now in the overbought, and the MACD is positive and diverging. To confirm the outlook of higher prices, the index needs to break above the 104 level and then resistance at 105, the recent highs. Alternatively, if the index finds resistance at 104, the recent trend can reverse down to 200 MA at 102.93 and 102.35. The appetite seems to have increased, and the long candle body confirms this, however oversold stochastics could point to the end of upside momentum in the near term, especially if resistance at 104 holds.

EURGBP

The pair has been softening in recent sessions after finding resistance at 0.855 and has been trading mostly sideways today, supported by 200 MA. The stochastics are oversold yet converging on the upside, confirming waning buying pressure, and the MACD is negative and converging. If weakness prevails, we could see prices break below the 200 MA at the 0.8498 level to test 0.845. On the upside, if support above this level holds firm, this could trigger gains through 100 MA at 0.8592 and target 50 MA at 0.8535. The most recent indicators suggest we could see the index rise further in the near term, but the index needs to breach the near-term resistance to confirm the continuation of longer-term upside momentum.

Contents

Disclaimer

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