The correction of January’s USD index indicates that investors doubt the victory over the pandemic. Confidence can only be restored by successful vaccination. Let us discuss the Forex outlook and make up NZDUSD, AUDUSD and USDNOK trading plans.
When investors are not worried about anything, the monetary policy takes the lead in Forex. But as soon as there are fears of a global scale, the new market drivers appear. From 2018 to 2019, market was focused on trade wars, in 2020 on the pandemic. I don’t think COVID-19 will be quietly eradicated. On the contrary, it will continue to terrorize financial markets in 2021. But you need to look at the coronavirus from a different angle. Last year, investment plans were influenced by the speed of its spread and the amount of damage caused to the economies of individual countries and regions. This year the efficiency of the vaccination process will be decisive in the world economy.
You can talk as much as you want about the reasons for the USD strengthening in early 2021. However, the reduction of speculative short positions on the greenback only occurs if investors begin to doubt their own plans’ feasibility. Most of them hoped that defeating the pandemic would trigger explosive growth in global GDP and international trade and also support both risky assets and the currencies of export-oriented countries and regions, including the euro. Such a scenario is only possible if vaccines are introduced quickly and successfully. Alas, there are still numerous problems. By the end of 2020, the United States vaccinated only 2.8 million people, but the original plan included 20 million people. By mid-January, they have 25.4 million doses at their disposal, but only 8.9 million Americans received the vaccine. However, the vaccination campaign’s speed in the United States is one of the highest in the world.
There is certainly some good news. Joe Biden has promised to produce the vast majority of COVID-19 vaccines and speed up its delivery, while the European Union will double purchases of BioNTech/Pfizer. I am an optimist and sincerely believe that everything will end well. The only question is when?
Earlier, investors assumed that the first quarter of the year would be challenging. But already we are expecting rapid GDP growth in the second or third quarter. In November-December, they made bets on the emerging markets’ currencies and bought EURUSD. However, the slow vaccination process makes them reconsider their plans in January. What if the second quarter turns out to be tough? Is it too early to buy euros and EM assets? Perhaps their time will come in March-April, and now it would be worthwhile to return to the US dollar?
In my opinion, only a complete failure of the vaccination process can break the USD index downtrend. I do not want this to happen. Otherwise, the correction will end sooner or later, and the trend will begin to recover. As a result, a question about the purchases will arise. The sensitivity of the various currencies to vaccine introduction will provide guidance.
The good news about vaccinations acts as a catalyst for the growth of the New Zealand and Australian dollars, the Norwegian crown, and emerging market currencies. In this regard, NZDUSD and AUDUSD corrections should be used for purchases with targets at 0.75 and 0.82, respectively. A pullback in USDNOK should be used to enter sell trades with a target at level 8
The EURUSD drop could suggest that the former investment ideas may not be working. Let us discuss the Forex outlook and make up a EURUSD trading plan.
May the US dollar become an attractive trading asset for optimists? According to the BofA Merrill Lynch poll, the greenback selling strategy was the second most popular among large investors after buying Hi-Tech stocks. Traders were selling off the US dollar as a safe haven amid the hopes for victory over the pandemic and the explosive growth of global GDP. In January, the situation has radically changed; the S&P 500 rally doesn’t encourage the EURUSD bulls anymore. Why?
At the turn of 2020 and 2021, the correlation between US stocks and the USD index reached record highs. The US stock market is traditionally considered an indicator of global risk appetite, whose growth fuels the safe havens’ sell-offs, including the US dollar. Nonetheless, the massive fiscal stimulus expected under Joe Biden, the rebound of the US GDP (4.3% in 2021, according to the Wall Street Journal experts), and the greenback’s weakening should increase the foreign investors’ demand for the S&P 500. The capital inflow to the USA could strengthen the US dollar.
The growth of Treasury yields could turn the greenback from a funding currency into a risky asset. The dollar could be more appealing, especially compared to the yen and the euro, because the government bond yields in Japan and Germany are lower than their US peers. As a result, the dollar will be the favorite of optimists, betting on the global economic recovery in 2021.
I suggest some flaws in the above scenario, at least the current economic cycle stage. First, US equities look overvalued. The P/E ratio is 22.3, which is close to the all-time high of 24.4, recorded in March 2000. Yes, the fiscal stimulus of $1.9 trillion, promised by Joe Biden, easy monetary policy, and a potential rise of the US GDP will support the S&P 500 bulls. However, investors should realize that everything has its price to pay. The price could include the growing taxes and the Treasury rates’ increase. As a result, the stock index could enter a long-term consolidation, and investors will search for other assets, more appealing than the US ones.
As for turning the greenback into a risky asset for carry trades, it is just an assumption without any reason. The growth of the Treasury yields must have been temporary. The US bond yields grew amid the increase of the papers’ supply and random comments of individual FOMC members about a bull back on QE. As expected, Jerome Powell ruined the hopes for a soon end QE. The Fed chairman noted that one of the central bank’s main mistakes after the 2007-2009 crisis was the too quick end of the ultra-soft monetary policy. It is not the time to talk about such things now; the right moment for a rate hike will not come soon.
I don’t think it is the right time to abandon the greenback sales strategy amid the hopes for the global GDP rebound. The progress in the vaccination process will encourage the EURUSD bulls. I suggest buying the euro on the breakout of the resistance levels of $1.218 and $1.221 with an upside target at $1.25.