What a gap in performance that has opened up between 'the funding currencies' and 'the higher yielding' complex! The aggressive unwind of carry positions currently underway came as the VIX, also known as the 'fear index' reached its highest level in over 2 years at a time when the rout in equities accelerated vigorously. For a full round-up, keep reading...

Quick Take

Today’s aggregated G8 FX indices chart leaves no doubt, the torrid market conditions out there, with the S&P 500 shaving over 10% from its all time high, suggests the hold of carry trades has become way too risky. The immediate ramifications of this aggressive unwind is to witness funding currencies the likes of the Euro, the Yen and the Franc flying in style. It’s simply not the time to keep carry-trade exposure when we’ve had the worst week in US equities since the GFC and the VIX at a 2-year high. One can see in the chart below the considerable gap that has opened up between ‘the funding currencies’ and ‘the high yielding complex’ with the Canadian Dollar by a country mile the most punished. I salute you with huge respect if you’ve been able to capitalize it through EUR/CAD longs. What a move! When looking at the Aussie and Kiwi, it’s the same old story, with sellers firmly in control. Make sure you visit the ‘insights into charts’ section for an opportunity to explore the smart money footprint in the Oceanic currencies as short-inventory keeps being built. In this environment of funding currencies thriving, USD longs were too schooled not to marry to a single direction, in this case longs, despite the 2020 bull trend is still in place. Lastly, the Pound remains unloved as the political brinkmanship by UK PM Johnson with the EU ratchets up.

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Narratives In Financial Markets

* The Information is gathered after scanning top publications including the FT, WSJ, Reuters, Bloomberg, ForexLive, Twitter, Institutional Bank Research reports.

COVID-19 monopolizes the narrative: This will remain the case for some time, as the terrifying prospects of a world economy brought to a standstill creep in. Overnight, the trend of COVID-19 spreading into the West kept playing out, with more cases popping up. France has now over 40 new confirmed cases, a total of 14 in the German state of Nord-Rhine Westphalia, while Italy has now over 700, with 17 confirmed deaths. Worse yet, California is monitoring 8,400 people after 33 cases were identified in the state. Read a summary here via ZH.

WHO’s Tedros warns of ‘decisive point’: The head of the World Health Organization Mr. Tedros said that the coronavirus outbreak has reached a “decisive point” and it has “pandemic potential”. Dr Tedros urged governments to act swiftly and aggressively to contain the virus. "We are actually in a very delicate situation in which the outbreak can go in any direction based on how we handle it," he said. "This is not a time for fear. This is a time for taking action to prevent infection and save lives now," he added. More on what Tedros said via the BBC.

Equity meltdown resumes: The low conviction to gain back risk exposure in equities translated in a short-lived attempt to rebound before indices in the US succumbed another 3 to 4% heading into the close, with the S&P 500 more than 10% off its record highs. The US fixed-income market continues to be the place to park one’s money as seen by the unstoppable falls day after day. One of the main catalysts for the resumption of the bear trend in stocks was a headline that the New York State health Department asked 700 people to self isolate for 2 weeks.

Fear Index at multi-year high: The VIX index, referred to as the ‘fear index’, has gone ballistic nearing the 40.00 handle, after it took out the 36.2 high from Dec 2018. This is the highest level since February 2018. As a historical anecdote, the highest volatility the index tends to reach is about 50% as in the episodes of back in 2015 not to mention during the GFC in 2008.

Forex carry traders give up: The unwinding of risk has led to a strong unwinding of carry trades with funding currencies, especially the EUR benefiting. The consistent dumping of the Canadian Dollar as the highest yielding currency throughout the day also plays into this view in a perfect bearish storm as the collapse in Oil and $1.3350 daily resistance breakout in USD/CAD fueled the rally.

The Sterling remains unloved: The weakness ensues as the dangerous political manoeuvrings by UK PM Johnson as part of the UK-EU trade deal negotiations continue. Johnson made the blunt yet not surprising statement that he is ready to walk away without a deal in the negotiations by June if there are no prospects of a Canada-style trade agreement. Besides, he kept arguing that the UK won’t trade away its sovereignty in the pursuit of a deal. The EU argues that such a hard-line stance violates the Political Declaration of the Withdrawal Agreement.

Vaccine ready ahead of expectations? Even if the market shrugged it off, Israeli scientists said that 'In a few weeks, we will have a coronavirus vaccine'. Once the vaccine is developed, it will take at least 90 days to complete the regulatory process and potentially more to enter the marketplace, according to news reported by The Jerusalem Post.

Watch month-end flows: As it’s the case at the end of every month, activity by fund managers to re-adjust the currency hedges on portfolios will take place. As the National Australian Bank notes, “chatter has it about month end rebalancing of hedges on international equities, ostensibly implying the need for fund managers to be buying back US dollars and selling AUD, the impact of any such flow may not be as great as some will like to make out.”

Circuit breaker coming up? Markets don’t go on a straight line, hence, sooner or later, an event or series of events will occur that may change the current dynamics. In my opinion, as we are getting deeper into the eye of the COVID-19 storm, the onset of a relief rally may come in the form of coordinated monetary/fiscal responses by developed countries, an outcome that G20 countries attending the last summit in Saudi Arabia over the weekend have pledged.

Global easing priced in: On the monetary policy front, the market keeps pricing in easing by the Fed, with the March meeting 'a coin flip’ around 50% chance with 75bps of easing fully priced in 2020. For the RBA, chances of a March rate cut are just under 15%, yet easing in April is about 50% with 44bp worth of cuts by November. The ECB may take a more hands off approach for now, after President Lagarde said she is monitoring the outbreak “very carefully” but not at a point where it may have long-lasting consequences on inflation. Canada has a one-quarter cut fully priced for April and a second priced by September.

Guggenheim's Scott Minerd spooked by events: The well-known investor declared on Bloomberg TV, "this is possibly the worst thing I have seen in my career... it's hard to imagine a scenario in which you can contain the virus threat. Europe and China are probably already in recession and US GDP will take a 1.5-2.0% hit. The stock market could be down 15-20%... and would likely force The Fed's hand. The Fed is fairly impotent in this environment. This has the potential to reel into something extremely serious."

Don't count on German fiscal stimulus to be big: German media reports the likes of Handelsblatt have indicated that the German government is toying the possibility of a stimulus programme should the proverbial hit the fan and cause major economic disruptions in the German economy. However, the German economy minister Altmaier said authorities there are “not planning any fiscal program to deal with the virus.” For more insights, read this note by the team of Economists at Berenberg.

Australia aims at small-scale stimulus: In terms of fiscal stimulus in Australia, the Prime Minister Morrison is not looking at any large fiscal response to assist the economy in case of a slowdown, according to the AFR. Instead, as the report notes, the Treasury will develop small-scale fiscal stimulus contingency plans.

Economic news a side-show in front of COVID-19: Given the dimensions the COVID-19 has evolved into to now be a global crisis, the market is set to keep ignoring economic data unless it has a severe shift in a Central Bank’s outlook. It will nonetheless serve, as more weeks go by, to understand how the unraveling of the viral crisis is affecting manufacturing, services, sentiment and the economy as a whole. Just be aware that there is a topic that is eclipsing absolutely everything else at this stage.

Recent Economic Indicators & Events Ahead

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Source: Forexfactory

Insights Into Forex Flows

The Sterling is the first market to explore after it triggered a role reversal play on the back of a topside failure to auction higher. What’s important here is to pay attention to the type of ascent we had, with each poke into higher levels an opportunity to build shorts, leading to the creation of back-to-back wicks as a result of each break. Once the market broke its structure by sell-side orders overwhelming the uncommitted buying manoeuvrings, the play was to re-engage on a backside test of the swing low that led to the last upside breakout (optimal entry). This is where trapped longs want to bail and mounting shorts concentrate for a minimum target of the recent trend lows being retested, location where the trade should be cost free. I remain short.

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The next market to gift the avid trader with an exceptional opportunity to gain short-side exposure into the Canadian Dollar came via a USD/CAD play. I must say I missed the entry by 1 pip, so all I can think of is “tough luck, moving on…” On to the logic behind this trade. The market had built up a temporary equal-low base which got taken out in early Europe, only to see an aggressive reversal back up as the play was to get the heck out of carry trades. By the time US traders came online, and with a successful rotation having ensued, the play was always going to be re-align one’s bids with the side in control (buyers) at the role reversal level.

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Another short play still to make it high enough to fill what I expect to be an important cluster of sell-side orders is the USD/JPY market. An analogous pattern transpired through the US session, with a decisive break of structure getting plenty of buyers into a weak-handed position now. I am anticipating an urge to get out of longs at the market retests the role reversal area (red). Note, the market has been selling off very aggressively and personally, I find this market way too low to aspire for an asymmetric risk reward scenario this time around. Just my 2 cents.

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The AUD/JPY is another case study as part of a market that has respected to the pip its role reversal area after the same pattern played out. I am referring to 3 intraday drives followed by a breakout of market structure. By the time the NY close, the chances were to potentially consider gaining short exposure in this market on the assumption that sellers are back in the driver’s seat after a very brief period of time to re-accumulate short positions on the way up. Note, however, the market has reached its 100% proj target off the daily chart, which may see the downside limited. Either way, this is now a cost-free trade as a retest of the prior low has occurred.

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By now it is no secret that the market has disregarded the neutral stance the RBNZ assumed it could retain, with aggregated order flow skewed towards the negative side in the NZD/USD market as institutions build up short-inventory. A short could have been identified through a compression into the highs before a break of structure and a retest.

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Important Footnotes

Market structure: Markets evolve in cycles followed by a period of distribution and/or accumulation. To understand the principles applied in the assessment of cycles, refer to the tutorial How To Read Market Structures In Forex

Horizontal Support/Resistance: Unlike levels of dynamic support or resistance or more subjective measurements such as Fibonacci retracements, pivot points, trendlines, or other forms of reactive areas, the horizontal lines of support and resistance are universal concepts used by the majority of market participants. It, therefore, makes the areas the most widely followed and relevant to monitor. The Ultimate Guide To Identify Areas Of High Interest In Any Market

Fundamentals: It’s important to highlight that the daily market outlook provided in this report is subject to the impact of the fundamental news. Any unexpected news may cause the price to behave erratically in the short term.

Projection Targets: The usefulness of the 100% projection resides in the symmetry and harmonic relationships of market cycles. By drawing a 100% projection, you can anticipate the area in the chart where some type of pause and potential reversals in price is likely to occur, due to 1. The side in control of the cycle takes profits 2. Counter-trend positions are added by contrarian players 3. These are price points where limit orders are set by market-makers. You can find out more by reading the tutorial on The Magical 100% Fibonacci Projection