(Bloomberg) -- Emerging markets head into the last full trading week before the U.S. election with stocks and currencies near their highest levels since January and dollar-bond spreads close to their narrowest since February.Don’t expect it to get much better than that in coming days.Caution is likely to be the watchword for investors, with the Nov. 3 vote set to reveal not just whether Joe Biden’s opinion-poll lead over Donald Trump will propel him to victory, but also determine the fate of the much-anticipated U.S. stimulus package. And there’s always the risk of a contested result.“It makes sense for emerging-market investors to maintain only light (risk-bullish) positions in the remaining days before the U.S. election,” a Credit Suisse SA team including Kasper Bartholdy, managing director of fixed-income strategy in London, wrote in a report. “This is in part because we see sizable residual scope for the ‘Biden/Trump U.S. voter-support gap’ to fluctuate. It is also because we see a large risk that ongoing negotiations in the U.S. about pre-election fiscal-policy stimulus will falter and cause some temporary market consternation.”That investors are wary of putting too much on the line right now is already apparent. Implied currency volatility declined for a fourth week in the past five trading days, the longest streak since June. The main MSCI indexes of stocks and currencies barely budged Friday. A Bloomberg-Barclays gauge of emerging-market dollar bonds was also little changed.That’s not to say there aren’t plenty of emerging-market events to keep traders on their toes this week. China is reconsidering its strategy for the internationalization of the yuan and planning for more policy support as it prepares to hammer out the country’s future economic blueprint. South Africa will present its medium-term budget, which will set out the nation’s spending and borrowing targets for the next three years. And there are monetary-policy meetings in Brazil and Colombia.China’s Five-Year PlanThe central committee of China’s Communist Party meets Monday through Thursday to discuss the next five-year plan. At the close of the plenum there should be a broad sense of what the plan will be, although the details will only be revealed in MarchThe plenum is a chance for China’s planners to emphasize their vision for technological leadership and supply-side reformsSome emphasis may also be placed on expanding domestic financial markets, which may attract more foreign capital, as opposed to allowing too much growth of already bloated bank loan booksThere’s also likely to be a debate about whether to announce a growth target. An ambitious number, say above 5-5.5%, would suggest more emphasis is being placed on the quantity of growth rather than its quality, and may increase the possibility of additional stimulusThe nation recently completed a comprehensive review of its strategy for the internationalization of the yuan. The government can be more proactive with policy support to facilitate the role of the markets, said Zhu Jun, director general of the People’s Bank of China’s international divisionThe currency reached the strongest level in more than two years last week as the dollar weakened and China’s recovery from the pandemic showed signs of broadening in SeptemberChina will publish September industrial profits on TuesdayOfficial October PMI numbers due on Saturday are expected to show continued expansionCentral Banks on HoldBrazil’s central bank will probably hold its key interest rate steady on Wednesday as investors search for clues on the policy makers’ next steps, according to Bloomberg EconomicsOn Friday, money managers will watch for August unemployment figures, September’s primary budget balance and a reading of net debt as a percentage of GDPColombian policy makers may keep their key interest rate at a record low on Friday, according to the median forecast of economists surveyed by BloombergThe Colombian peso is the best-performer among Latin American peers this month after its Mexican counterpartMedium-Term BudgetSouth Africa’s Finance Minister Tito Mboweni will present the medium-term budget policy statement on Wednesday after asking parliament to delay it by a week so the Treasury can assess the implications of the government’s economic recovery plan on spendingThere’s “limited potential” for the rand to strengthen beyond the 16.08 per-dollar intraday peak seen in September and investors should trim their positions in local-currency bonds before then, according to Credit SuisseCredit Suisse sees a “high chance that the Treasury will fail to deliver meaningful fiscal consolidation measures in the near term,” a team including Kasper Bartholdy saidThe rand is the best-performing developing-nation currency this month after the Mexican pesoData and EventsSouth Korea will announce third-quarter GDP on Tuesday, with economists projecting growth of 1.3% over the previous three monthsThe country will also release October consumer confidence on Wednesday, and November business confidence on Thursday. Industrial production for September due on Friday is expected to show the first year-on-year growth since MarchOctober trade numbers are due on Sunday. The month had fewer working days than October 2019, meaning the data are expected to show a year-on-year declineSouth Korea’s won was the strongest currency in Asia again last week despite warnings of intervention from authoritiesMalaysia’s September trade accounts are due on Wednesday, with the consensus for a slight widening of the surplusThe ringgit was little changed last week amid a decline in political noiseThailand’s cabinet is due to meet Monday and Tuesday to discuss how to respond to the ongoing anti-government protestsSeptember manufacturing production is due on Wednesday, with economists forecasting a slower pace of decline. Balance-of-payments and trade numbers are due on FridayThe baht was Asia’s worst-performing currency last week after the Indian rupee. The currency dropped despite attempts by the prime minister to calm political tensions by lifting the state of emergencyRead: Here’s What May Happen Next in Thailand’s Historic ProtestsTaiwan will release third-quarter GDP on Friday, with a small return to growth anticipatedTaiwan’s dollar maintained its recent pattern of strengthening during the day and erasing its advance toward the close of tradingTurkey’s central bank will reveal its latest inflation forecast in its quarterly report on WednesdayThe lira weakened for a ninth week in the five days through Friday, its longest weekly slide since 1999After an unexpected rate hike in September stoked bets that the central bank had shifted to a hawkish stance, policy makers surprised the markets by keeping the policy rate on hold last weekIn Chile, traders will watch the market impact of Sunday’s referendum on whether and how to write a new constitutionCentral bank minutes, to be released on Friday, will likely reflect the monetary authority’s plans to keep its rate steady through 2021Unemployment, retail sales and copper-production figures for September, also expected on Friday, will provide clues on how the nation’s economy has fared amid the pandemic and uncertainty over constitutional reformA preliminary reading of Mexico’s third-quarter gross domestic product, scheduled for Friday, is expected to show that activity bottomed in the second quarter, according to Bloomberg EconomicsArgentine traders will be watching for any developments on how the government plans to handle its currency crisis as the gap between the official peso and the blue-chip swap rate widensU.S. Treasury Secretary Steven Mnuchin is unlikely to release a much-watched report on international currency manipulation that was due in April until after the Nov. 3 presidential election, according to people familiar with the matterEmerging-market currencies could rally 5% by the end of the year should Biden win the presidential election, Morgan Stanley strategists including James Lord and Jaiparan Khurana wrote. In its recommendation to investors, the firm said it entered long positions in the South African rand and Russian ruble against the dollar, and has moved to shorts on the U.S. currency versus the Brazilian real, Mexican peso and Colombian pesoFor more articles like this, please visit us at bloomberg.comSubscribe now to stay ahead with the most trusted business news source.©2020 Bloomberg L.P.
(Bloomberg) -- The dollar may tumble to its lows of 2018 on the rising likelihood of Joe Biden winning the U.S. election and progress on a coronavirus vaccine, according to Goldman Sachs Group Inc.“The risks are skewed toward dollar weakness, and we see relatively low odds of the most dollar-positive outcome -- a win by Mr. Trump combined with a meaningful vaccine delay,” strategists including Zach Pandl wrote in a note Friday. “A ‘blue wave’ U.S. election and favorable news on the vaccine timeline could return the trade-weighted dollar and DXY index to their 2018 lows.”The ICE U.S. Dollar Index has fallen almost 3.5% this year -- trading just over the 93 level on Monday -- as investors reacted to unprecedented pandemic-related monetary stimulus from the Federal Reserve and rock-bottom interest rates. The gauge traded below 89 in 2018, a level which would imply a further slide of more than 4%.Goldman joins the likes of UBS Asset Management and Invesco Ltd. in predicting a weaker dollar as Biden extends his lead over President Donald Trump with less than three weeks to election day. It recommends investors short the dollar against a volatility-weighted basket consisting of the Mexican peso, South African rand and Indian rupee.The strategists also suggest buying the euro, Canadian and Australian dollars against the greenback. The firm is keeping open long recommendations for the yuan through unhedged Chinese government bonds.“The wide margin in current polls reduces the risk of a delayed election result, and the prospect for near-term vaccine breakthroughs may provide a backstop for risky assets,” they wrote.Read more: Trump-Biden Volatility Is Giving Traders Butterflies: QuickTake(Updates pricing in third paragraph.)For more articles like this, please visit us at bloomberg.comSubscribe now to stay ahead with the most trusted business news source.©2020 Bloomberg L.P.
By Erik NorlandInterest rate differentials between currencies can be crucial in foreign exchange markets for pricing purposes such as in the carry trade, and they have taken on added significance with the advent of negative rates in Europe and Japan over the past few years. So, how big are the interest rate differentials between currency pairs? On the face of it, it seems like a simple enough question. But the variety of ways used to measure the differential makes for a complicated answer. Differences in rates between central banks can be used as a guide but may be of limited value to everyday currency traders as only major financial institutions deal directly with central banks.In financial theory, market participants would typically look at interbank rates, such as ICE LIBOR, as a guide. Unlike the official central bank rate, interbank rates offer a look at private sector lending rates. However, these rates may not reflect the rate differentials that currency traders are actually getting in the market. Also, the rates have been discontinued for several currencies.Overnight index swap rates (OIS) such as EONIA can also be used to gauge the level of interest differentials among currencies. OIS rates, however, stick closely to central bank rates and may also not fully reflect the interest rate gaps currency investors are getting in the market.Another avenue for calculating interest rate differentials is the currency market itself, where implied interest rate differentials can be calculated from the difference in the value of a currency in the spot and futures markets. For example, CME's FX Swap Rate Monitor calculates the implied interest rate differential between CME FX futures and CME FX Link's central limit order book (Figure 1).Figure 1: FX markets shows larger interest rate differentials than other measures What's curious is that when these ways of measuring interest rate differentials are compared, the currency market measure consistently showed a larger interest rate gap between the US rate and the foreign currency rate than did central bank rates or the OIS. In other words, US interest rates appeared higher relative to other countries when observed in the currency market than in the interest rates market. This was true across seven different currencies on CME FX Swap Rate Monitor measured over August and September. Some of these gaps were as big as 20 or 30 basis points. This is to say that US dollar rates appear to be relatively higher versus rates in Australia, Canada, the eurozone, Japan, New Zealand and Switzerland than the differences from central bank rates or OIS would suggest.For some currencies, like the Australian (AUD) and New Zealand dollars (NZD), the gap between the currency market and the OIS rate differentials are fairly small, averaging around 10 basis points (bps). For most of the other currencies, the gap is more substantial, averaging around 20-25bps for the euro (EUR), British pound (GBP), Canadian dollar (CAD) and Swiss franc (CHF). For the Japanese yen (JPY), the rate gap between the currency market and the OIS measures has been larger (around 35 bps). In every case the currency market measure shows US rates being higher relative to the other countries when compared to the central bank rate or OIS measures.For EUR, GBP and JPY, the interbank (ICE LIBOR) rate measure is closer to the FX Currency Swap Monitor measure. Even here, however, the currency futures market measure shows that the EUR-USD interest rate differentials were, one average, 5 bps greater than the interbank measure and 14 bps greater in Japan. By contrast, for the UK, those two values have been in line over the past two months (Figure 2).Figure 2: OIS comes close but still shows smaller rate differentials than FX markets The seven currencies mentioned share one thing in common with the US dollar: they all have official central bank rates near zero. Among the currencies on CME's FX Swap Rate Monitor, only the Mexican peso has interest rates substantially above zero - in the 4-5% range. For the Mexican peso as well, the currency market measure showed US rates on average 50 bps higher relative to Mexican rates than is the case in the OIS market and about 24 bps higher than the two nations' central-bank rates would suggest (Figure 3). This difference probably arose from the fact that the Mexican central bank cut rates twice over the past two months which was anticipated by the currency forward markets but not by overnight swap rates.Figure 3: In Mexico, too, USD rates appear higher than they do for the other currencies As one can see in the appendix (Figures 4-11), the day-to-day values are a bit choppier than the averages, but even so, the currency market mostly shows a greater gap than the other measures. So, this begs the question: Why would the currency market imply that US rates are higher relative to other country's rates so consistently and across so many currencies than would be implied from the differentials calculated from interbank or central bank rates?One answer is that the relatively higher US rates implied in the currency markets might reflect a global forward demand for U.S. dollars. In certain cases, like in Japan and the UK, it might also reflect expectations that their central banks may soon be lowering interest rates. That said, if that expectation does exist, it should, in theory, also exist in the interbank rates but should only be seen in the OIS market in the 24 hours before a rate move.One thing is clear, those who trade in the currency markets and those who work in short-term interest markets might want to keep a close eye on the interest rate differentials implied between currency futures and the spot FX market as an additional reference point in their trades.Figure 4: EURUSD Rate Differentials Figure 5: GPDUSD Rate Differentials Figure 6: JPYUSD Rate Differentials Figure 7: AUDUSD Rate Differentials Figure 8: CADUSD Rate Differentials Figure 9: CHFUSD Rate Differentials Figure 10: NZDUSD Rate Differentials Figure 11: MXNUSD Rate Differentials To learn more about futures and options, go to Benzinga's futures and options education resource. See more from Benzinga * Options Trades For This Crazy Market: Get Benzinga Options to Follow High-Conviction Trade Ideas * Are Equity Markets Set Up For Volatility In Q4? * Here's What's Happened To The Gold Market In 2020(C) 2020 Benzinga.com. Benzinga does not provide investment advice. All rights reserved.