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Mild Sanctions Spur Relief Rally

By Marc ChandlerForexFeb 23, 2022 06:22AM ET
Mild Sanctions Spur Relief Rally
By Marc Chandler   |  Feb 23, 2022 06:22AM ET
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The market appeared to be judging the initial salvo of sanctions against Russia for formally recognizing the separatist regions in Ukraine as modest at best and preceded to take on more risk. Tokyo markets were on holiday but the other major equity markets in region rallied and the MSCI Asia Pacific Index rose for the first time in four sessions. Led by consumer discretionary, materials, and staples sectors, the Stoxx 600 was rising for a second session. US futures were 0.65%-1.0% higher. The NASDAQ had a four-day losing streak in tow.

Benchmark bond yields were firmer. The US 10-year yield was up about three basis points to 1.97%. European yields were narrowly mixed. Australia and New Zealand benchmark yields rose 7-9 bp, reflecting some catch-up, but also Reserve Bank of New Zealand's rate hike and more aggressive forward guidance.

The more robust appetite for risk was helping lift the dollar-bloc and Scandi currencies, while the Japanese yen was flat. Most emerging market currencies were firmer, but the Russian ruble was off about 1%, after advancing a little more than 1% yesterday.

Gold’s appeal diminished, and after trading a little through $1914 yesterday it may vulnerable to a test the recent lows near $1885. Crude oil was consolidating. In the past two sessions, the April WTI contract traded between roughly $87.50 and $95.00. It was hovering around the middle of that range (~$91.50). US natgas prices were a little softer, but Europe's benchmark jumped over 12%. Iron ore prices rose almost 2% earlier today, while copper's three days fall may be snapped today. 

Asia Pacific

As widely expected, the Reserve Bank of New Zealand hiked its cash target rate by 25 bp to 1.0%. Officials expected the key rate to stand at 2.50% in 12-month, but saw a peak at 3.25% by the end of next year, 75 bp higher than previously. It also announced that it will begin a gradual reduction of its balance sheet in July by selling NZ$5 bln per fiscal year. In addition, it will not reinvest proceeds from maturing holdings.

The hawkish posture was underscored by the acknowledgment that the 25 bp hike was "finely balanced" and that the RBNZ will raise rates quicker, if required. Some observers saw the comment as a hint of a 50 bp move in May.

New Zealand has been experiencing an Omicron wave while the economy was strong. Unemployment stood at a record low of 3.2% in Q4 21, and inflation was running just below 6%. That said, the RBNZ projects growth of about 5.3% in the year through next month, while it cut its growth forecast for the next fiscal year to 2.9% vs. 4.2%.

Australia reported Q4 21 wages growth of 0.7% after a 0.6% increase in Q3 21. The year-over-year rate edged up to 2.3% from 2.2% and missing the median forecast in Bloomberg's survey of 2.4%. The market's initial reaction was to take the three-year yield down six basis points and the Australian dollar wobbled. The Reserve Bank of Australia meets next week. The market was looking for a rate hike around the middle of the year, but the central bank is less sanguine. Governor Lowe has allowed for a rate hike before the end of the year, if wages continue to accelerate.

The dollar bounced off of JPY114.50 yesterday and settled a little above JPY115.00. The yen was sidelined today, with Tokyo out. The dollar was trading in less than a 20-pip range and was unable so far to take out yesterday's high near JPY115.25. Rising US yields and equities would seem to have favored a stronger greenback.

The Australian dollar closed above $0.7200 for the first time yesterday in a month and follow-through buying lifted it to nearly $0.7270, its highest level since Jan. 20. A band of resistance was seen between $0.7280 and $0.7315, the high for the year so far. At the end of January, the Aussie had fallen below its lower Bollinger® Band, and now it was toying with the upper Band (~$0.7265). The intraday momentum indicators were stretched.

The greenback fell to new four-lows against the Chinese yuan today (~CNY6.3140). The low from early 2018 was CNY6.24-CNY6.25, but there was talk of a move toward CNY6.20. Even though a couple of large US asset managers have reduced their exposure, foreign demand remained strong. On top of its large trade surplus, foreign portfolio investment flows are robust. The PBOC again set the dollar's reference rate weaker than the bank models (Bloomberg survey) projected:  CNY6.3313 vs. CNY6.3330.


The threat of devastating sanctions on Russia looked wide of the mark. The measures announced were being judged to be mild. For example, the US prohibition of buying Russian bonds in the secondary market complemented the restrictions in the primary market, but it didn't impact current holdings. At the end of last year, US investors held about $14 bln in long-term Russian bonds.

The sanctions on a few elites may be inconvenient but hardly significant. The largest Russian banks were not targeted, but a few state-owned banks were. Some sanctions by the UK seemed to target some that the US had previously sanctioned. We suspect that these moves were among the more modest measures that Russia had anticipated.

At the same time, reports suggested that Russian forces were already in the separatist regions, so outside formally recognizing the separatist regions, it was not clear yet what had materially changed on the ground. This appeared to be dividing the risk assessment, with some in Europe not seeing it as an invasion.

Austria's central bank chief Holzmann, a noted hawk, was pushing two initiatives. First, he continued to argue in favor of hiking rates while the bond buying continued. ECB President Lagarde pushed against this sequencing. Recall that the BOE had briefly toyed with hiking amid QE but ultimately finished its bond buying before hiking rates. Second, Holzmann saw a possibility of a hike at the end of the summer and another one before year end. A Reuters survey found a median expectation for the ECB's bond buying to wind down in Q3 and a hike in Q3/Q4.

Since the US warning on Feb. 11 that Russian military action was imminent, the euro has chopped in a $1.1280-$1.1400 trading range. It tested the lower end yesterday before recovering. Follow-through buying lifted the single currency to almost $1.1360 in the European morning. Yesterday's high was slightly above $1.1365. The intrasession momentum indicators were over-extended, suggesting the upside will likely be limited in the North American morning.

Sterling found support yesterday around $1.3530 and recovered to test $1.36. It was pushing higher today but the market seemed hesitant to challenge the recent highs in the $1.3640 area. Here too the intraday momentum indicators were stretched. Initial support was seen around $1.3580.


The US economic calendar is light today. The weekly mortgage applications report and the Fed's Daly late in the US session are the highlights. Treasury was also selling a two-year floating rate note ($22 bln) and five-year notes ($53 bln). Yesterday's $52 bln sale of two-year notes was well received. The sale was covered 2.64x and an indirect bidder took down almost 2/3 and direct bidders almost a fifth. Dealers were absorbed a little more than 15%, the least in many years.

Meanwhile, the US 2-10 year yield curve continues to flatten. It fell through 39 bp for the first time in two years yesterday. Recall that it was near 78 bp at the end of last year. It peaked at the end of March 2021 a little below 160 bp. It was near 130 bp as recently as last October.

Like the US, Canada also has a light economic diary today. However, Mexico and Brazil are busier. Mexico reports the biweekly CPI reading through the middle of February. This measure of inflation has drifted lower since the end of last November. However, it remains above 7% and the downdraft is expected to have ended after falling to 7.01% at the end of January. The median projection in the Bloomberg survey looks for 7.17%, which would be the high so far this year.

Mexico also reports December retail sales. A 0.3% rise is expected after a 0.9% increase in November. Banxico does not meet for a month and the market leans toward a 25 bp hike after two 50 bp hikes in a row.

Brazil reported its IPCA inflation measure. It fell from 10.73% in November 2021 to 10.20% in January 2022. After two months of improvement, prices are expected to have risen by 10.63% this month (median in the Bloomberg survey). The Selic rate stands at 10.75% and the swaps market is pricing in another 200-225 bp hikes in the next six months, and some are looking at the first cut either late this year or early next year.

Meanwhile, foreign inflows into Brazil's equity market remains strong (~BRL64 bln or ~$12.7 bln over the past two months). The Bovespa is one of the best performing equity markets this year, up 7.7% through yesterday and year-to-date the Brazilian real is the strongest currency in the world, rising by about 10.2% coming into today.

The US dollar approached the upper end of this month's range against the Canadian dollar near CAD1.28. It came back offered today in line with the stronger risk appetites. It was testing the CAD1.27 area. The lower end of the recent range was around CAD1.2660. The Bank of Canada meets next week, and swaps market had a nearly 70% chance of a 50 bp hike discounted. It may also announce that it will allow its balance sheets to gradually fall starting in April or May.

The greenback settled below the 200-day moving average against the Mexican peso for the fifth consecutive session yesterday. It was sitting just above the low for the year set last week near MXN20.2360. There was little on the charts until closer to last October's low near MXN20.12. On the upside, the MXN20.28 may offer initial resistance.

Mild Sanctions Spur Relief Rally

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Mild Sanctions Spur Relief Rally

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