Risk currencies gave back some of their gains yesterday, having rallied sharply on Monday following news of progress towards a COVID-19 vaccine.

Optimism surrounding the potential vaccine eased slightly on Tuesday, with investors not getting too carried away given the number of hurdles that still remain before any mass vaccinations can take place - notably how it would be transported in ultra-cold temperatures. A sharp increase in new COVID cases in the US has also kept a lid on risk appetite, as has lingering concerns surrounding President Trump’s campaign to overturn the election result.

New daily cases of the virus rose to a record high above 135,000 in the US yesterday, with a number of states imposing new restrictions in order to curb the virus’ spread. A handful of medical experts have warned that daily cases could exceed the 200k mark in the coming weeks, meaning that the wider reimposition of lockdown measures could be on the cards in the US in the near-term. FOMC member Kaplan stoked concerns yesterday, warning over the risks of fresh lockdowns and stating that the US economy may not rebound until late-2021.

President Trump’s refusal to accept defeat in the election also presents somewhat of a risk to markets. While we think that Biden’s margin of victory is likely to be large enough that a Trump contest will be mostly brushed aside by the market, there may be an element of concern among investors should his legal challenge gain any degree of traction. Senate Majority Leader Mitch McConnell stated yesterday that Trump was well within his rights to contest the vote, with most Republicans also refusing to accept Biden as the outright winner.

Pound jumps to two month high following vaccine news

As we noted yesterday, sterling continues to trade mostly in a world of its own at the moment and has been the best performing currency in the G10 this week, with the exception of the Norwegian krone.

News of a vaccine has been particularly good news for those countries hardest hit by the virus, with investors perceiving the UK to be among one of them given Britain’s high COVID deaths per capita ratio relative to most other major countries. Hope that the vaccine could lead to a rolling back in restrictions early next year has also cooled bets in favour of more Bank of England stimulus, with the market pushing back their timing for negative UK interest rates.

Euro underperforms as Eurozone data begins to deteriorate

The euro has moved in the opposite direction to the pound so far this week, with the market continuing to fret over the impact of the virus on the Eurozone economy.

Tuesday’s monthly confidence indices from ZEW painted a pretty grim picture. The economic sentiment index sank to 32.8 this month versus October’s 52.3, much worse-than-expected. There is a general expectation in the market that the Euro Area economy is on course to contract once again in the fourth quarter, with concerns that it may be on course to enter into a double-dip recession if the virus cases are not brought under control over the winter months. So far, we are not seeing any evidence of that in the hard data, with new cases in France, Germany and Italy rising to record highs in the past few days

We expect data in the coming weeks to continue to show signs of a slowdown in the Euro Area economy. This may well weigh on the euro, so risks in the short-term could be skewed to the downside.