USD: After its pronounced decline in recent weeks, the dollar is stabilizing in line with the pause in risk assets as plenty of good news has now been priced in and Covid cases in the US continue to rise. We see this as a temporary pause in the dollar decline and look for more to come, with the nearest possible triggers being further progress on US fiscal stimulus or an eventual agreement on the EU budget/ Recovery Fund and Brexit negotiations – all of which could spur further gains in risk assets and weigh on the dollar.
CAD: USD/CAD has dropped below the 1.30 mark and the relatively solid fundamentals of the loonie, along with a continuation of the benign USD decline, suggest we may not see levels above 1.30 again in the next year or two. The Bank of Canada's rate decision will be in focus, but we see very little room for surprise. The jump in employment in November is another factor which suggests the BoC does not need to expand its stimulus package (via rate cuts or more QE). At the same time, with lingering uncertainty about the timing for rolling out a vaccine, Governor Tiff Macklem is unlikely to sound too hawkish or upbeat on the recovery.
EUR: EUR/USD should hover around the 1.21 level ahead of the European Central Bank Meeting and the EU Summit on Thursday. Given non-negligible market expectations of further ECB easing and the structural USD decline in place, it will be difficult for the ECB to lean against the wind and tame the euro upside.
GBP: Has stabilized after the initial sell-off yesterday and pared most of its losses as Prime Minister Boris Johnson and European Commission President Ursula von der Leyen agreed to meet in Brussels this week (likely ahead of the EU summit on Thursday). As per Brexit: Five thoughts as decision time looms we think a UK-EU trade deal narrowly remains the most likely outcome of talks, which should lead to an eventual but modest GBP rebound. We reiterate what we see as an asymmetric GBP reaction function to the UK-EU trade negotiation outcome, with modest upside in the case of a deal but profound downside in the event of no deal as fairly limited risk premium is currently priced into GBP. This is evident in our short term financial fair value model as well as in speculative positioning (where we recently saw position-squaring of GBP shorts). In our base case of a deal, we look for GBP to dip and range trade throughout next year.
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