US Dollar May Recover Even If Market Mood Remains Upbeat

US DOLLAR, STOCKS, YIELDS, CONSUMER CONFIDENCE, CHINA - TALKING POINTS:

• US Dollar battered in risk-on trade but rising yield spreads may offer support
• Unexpected slump in US consumer confidence bodes ill for sentiment ahead
• Renewed US-China trade war escalation emerging as another key headwind

A chipper tone across global markets Friday drove the anti-risk US Dollar and Japanese Yen lower while sentiment-geared currencies like the Australian Dollar tracked higher alongside the bellwether S&P 500 stock index. The move seems to have followed reports that advisors to US President-elect Biden oppose a nationwide lockdown to contain the latest upswell in Covid-19 cases.

The pickup in risk appetite seemed to reduce the expected scope for additional Fed stimulus once again. The spread between the benchmark US 10-year Treasury yield and an average of returns on major alternatives (Germany, Japan, the UK and Australia) rose alongside share prices. This now reflects a premium of over 70 basis points to owning USD-denominated assets. That may set the stage for the currency to recover.

Chart created with TradingView

Needless to say, this presumes the risk-on push finds follow-through. That is by no means a foregone conclusion. Markets seemed to brush aside University of Michigan data showing US consumer confidence unexpectedly plunged to a three-month low in November. Most worryingly, the forward-looking “Expectations” component of the survey seemed to drive the bulk of the disappointment.

Household consumption accounts for close to 70 percent of US GDP growth, so the slump in outlook implied here bodes decidedly ill performance in the world’s biggest economy. That portends understandably negative knock-on effects globally too. The likelihood that a divided Congress will scupper efforts to deliver a large dose of fiscal stimulus in the foreseeable future compounds the danger.

US-China trade war escalation through the Trump administration’s ‘lame duck’ period before team Biden takes over in late January might be another headwind. The outgoing President moved to ban US investment in Chinese military-linked firms. Beijing predictably bristled out loud. Another round of tit-for-tat countermeasures may follow. In all, this means that the Greenback may yet reclaim a haven bid.

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--- Written by Ilya Spivak, Head APAC Strategist for DailyFX.com

To contact Ilya, use the comments section below or @IlyaSpivak on Twitter