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1、 Disclosures the lower cost of capital across the curve supports risky assets including higher yielding FX at the expense of the lower yielding funding currencies FX also responds in a relative fashion to who is cutting rates further and faster cross asset correlation remain relatively low and local
2、 stories are a source for differentiation Phase 2 Bad news is bad news Economic growth slows further but rate cuts are now priced in so the cost of capital struggles to fall further risky assets and high yielding FX start to come under pressure as the nominal yields on offer no longer look attractiv
3、e given the growing risk of recession safe havens for FX this means the USD and JPY start to outperform as capital repatriation becomes more of a focus financial markets start to move in a choppier more volatile manner and signs of dislocation creep in Phase 3 Bad news is terrible news Growth contin
4、ues to deteriorate and with traditional measures exhausted policy makers turn to increasingly unconventional steps to shore up their economies QE negative rates MMT currency wars become more prevalent which could see even safe haven currencies weaken relative to gold where there is limited intervent
5、ion risk risky assets fall sharply and market dislocations become more widespread The anatomy of a slowdown 4 Currencies Global October 2019 Source HSBC Expansion Anatomy of the Slowdown Weaker data Rate expectations decline Cost of capital falls across curve Risky assets appreciate High yield FX su
6、pported Time Data Adjustment restarts cycle Growth slows further Rate cuts now priced in Stickier cost of capital Increased volatility FX safe havens appreciate Growth even weaker Risky assets fall sharply Widespread market dislocations Unconventional policy measures FX safe havens strengthen furthe
7、r Higher risk of currency wars Phase 3 Phase 2 Phase 1 Bad news good news Bad news bad news Bad news terrible news 5 Currencies Global October 2019 Through the phases Of course some cycles never get to Phase 2 or 3 Sometimes the initial adjustment lower in rates and the bounce in financial condition
8、s seen in Phase 1 allows the economic expansion to resume Even if Phase 2 does emerge it might create a significant enough adjustment in risky assets and valuations that helps the economic cycle to pick up steam again meaning we never get close to Phase 3 Markets may also vacillate between different
9、 phases particularly Phases 1 and 2 as financial market adjustments may briefly support data before it turns down again In the last thirty years the US cycle has seen a number of slowdowns with varying degrees of severity Chart 1 The questions we answer in this piece are what Phase of the slowdown a
10、re we currently in and what does it mean for FX Phase in phase out We believe we are firmly in Phase 2 with markets potentially needing to price in Phase 3 The market seems less convinced and has even attempted to try the Phase 1 playbook in recent weeks This could make any possible shift from Phase
11、 2 to Phase 3 even more jarring It s the hope that kills you As any English cricket fan of the last thirty years will tell you it isn t losing games that hurts What s really painful is getting into a position where you should be winning and then collapsing to a humiliating loss Markets are potential
12、ly setting themselves up for similar pain Bad news from good news to bad news In the last few years as the global data pulse started to gradually slow there was something of a bad news is good news approach to economic data In particular as US data started to underperform market sentiment appeared t
13、o be buoyed by the idea that the Fed would cut rates This lower cost of capital would more than offset any decline in growth This is Phase 1 We can see this in the FX market in Chart 2 where we look at the relationship between AUD JPY traditionally very risk on risk off currency pair and negative US
14、 data surprises The red line shows the correlation between these indicators and the grey line the beta since 2017 For most of 2018 the reappraisal of rate expectations following disappointing activity data helped to buoy risky assets This is Phase 1 where bad news is good news As such AUD JPY displa
15、yed a generally negative correlation to negative US data surprises When US data was worse than expected AUD JPY tended to rally 1 US cycle is clearly slowing but what phase are we in for FX 10 8 6 4 2 0 2 4 6 8 10 35 40 45 50 55 60 65 Jan 90Jan 94Jan 98Jan 02Jan 06Jan 10Jan 14Jan 18 ISM Manf 3m avg
16、LHSUS GDP q q ann RHS Source Bloomberg HSBC Currencies Global October 2019 6 It now seems that this is no longer the case with the market s risk off reaction to waning activity data starting to dominate Since the slowdown has become more dramatic in the last few months and particularly as the US data has slowed more markedly the correlation appears to have flipped back into positive territory This is Phase 2 where bad news is bad news In other words the recent disappointing data out of the US ha
