On Wednesday this week, the Fed surpised us with their hawkishness. The market pricing that followed is less surprising:

Commodities have now started to finally see weakness, after a period of prolonged strength. Further, the broad dollar is now up once again- making our preferred dollar longs in terms of EURUSD and USDJPY look stronger this past month. Concurrent with the weakness in commodities, we see the Commodity Bloc in our currency bloc analysis looking weaker:

Now, while the Fed surprised us this week, they did so in terms of timing, not direction- we have been talking about the prospective monetary policy divergence between the Fed and ECB + BOJ for months now.Further, our economic forecasts point to a coming regime change, leading us to think that asset allocations that have performed strongly might not continue to do so:

As we can see, commodities prefer rising inflationary periods, but also require global growth to be strong for performance to be sustained. Our view is that global growth has indeed peaked with the US peaking, i.e. commodities will slowly become less and less supported. If the next environment (globally) is falling growth and rising inflation- gold could be attractive. However, we think the beta of gold to USD inflation will be greater than its beta to the rest of the world inflation. Therefore, we think it is now time to start taking profits across various reflation trade and start preparing for movements into other asset classes. At this junction, global stocks seem to be the most resilient to slowdowns in growth rates, so those might be appropriate places to add exposure as well.

 

In line with this, USDJPY long positions have benefitted handsomely this year (and will likely continue to do so). However, we have had a significant move up, and taking some profits could be sensible. Addtionally, we think it makes sense to exit GBPUSD longs:

As a refresher on our lenses:

  • Trading Range: These ranges represent a trading bank within which a currency should trade based on multiple market factors. If we are long- prices above the upside range indicate the asset is expensive, and prices below the downside range suggest that they are cheap and vice versa if we are short.
  • Year-to-Date Returns: This is the price performance of a given currency over the course of the current calendar year, in percentage terms. We also compare the current price to the 52-week high and low for reference.
  • Price Momentum: This looks at cumulative rolling returns for a selected lookback period.  Positive momentum is good if we are long and bad if we are short. 
  • Implied Volatility Discount/Premium: This tells us what the market expects in volatility relative to the history of volatility. If we are long a currency, we typically want market implied volatility to be higher than historical volatility and vice versa if we are short.

As a reminder- it is not just enough to have the technical tools we provide here daily. You need to know the fundamental developments in markets that are driving these moves promptly. Head to https://www.fxdd.com/mt/en to get access to our research and analysis!