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Season's Musings - Global Exchanges

FICC Podcasts Podcasts December 13, 2022
FICC Podcasts Podcasts December 13, 2022


In this week's episode, we look back at the biggest surprises in FX markets and related fundamentals in 2022. We will also offer preliminary thoughts on potential surprises for 2023.

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About Global Exchanges

BMO’s FX Strategists, Greg Anderson and Stephen Gallo, offer perspectives from strategy, sales and trading on the foreign exchange market, related financial markets, and the global economy.

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Greg Anderson:


Hi, welcome to episode 59 of Global Exchanges, a podcast about foreign exchange markets and related issues.

In this week's episode, my co-host, Stephen Gallo, and I will look back at the biggest surprises in FX markets and related fundamentals in the calendar year 2022. We will also offer preliminary thoughts on potential surprises for 2023. The title for this episode is, Seasons Musings.

Stephen Gallo:


Hi, I'm Stephen Gallo, a London-based FX strategist. Welcome to Global Exchanges, presented by BMO Capital Markets.

Greg Anderson:


Hi, I'm Greg Anderson, a New York-based FX strategist. I'm Stephen's co-host.

Stephen Gallo:


In each weekly podcast, like today's, we discuss our perspectives on the global economy and the foreign exchange market. We also bring in guests from the FX industry and from related financial markets, like commodities.

Greg Anderson:


We strive to make this show as interactive as possible, so don't hesitate to reach out by going to Thanks for joining us.

Stephen Gallo:


Okay, it's December 13th, 2022. Welcome to Global Exchanges. This will probably be our last podcast for the calendar year, barring unexpected shocks in the next week or so. And 'tis the season for annual outlooks, which you alluded to in the title Greg in your intro.

So using this week's podcasts, we're going to hone in on factors which took us by surprise in 2022 and come up with a list of plausible factors, which could take us by surprise in 2023. With that on the table, Greg, what's your top pick for a 2022 surprise amongst the currencies you cover?

Greg Anderson:


It has to be dollar/yen breaking above 150. I never would've imagined that.

And just to set the table a bit dollar/yen, as a reminder, was sitting at 113 a year ago as we prepared our last annual outlook. I could see, at that stage, some negative flow fundamentals brewing for Japan. So I put a move up to 118 in our outlook profile, and that level hadn't traded in about five years, so it seemed kind of bold to me. 150, well, I mean that hadn't traded since 1998.

I just did a fun exercise on Bloomberg that I will describe so those of you with a terminal can replicate it, if you wish. Using the OVML function for dollar/yen, I put it in a pricing date of a year ago today, 12/13/2021. And then, I priced up a one year, one-touch digital option with a strike or a trigger at 150. According to that exercise, the option market was pricing in a 3% probability of 150 trading at some point in the upcoming one-year period. Frankly, I would've assigned a lower probability than that. But it happened which, to me, is just yet another testament, and I've seen a bunch of them in my 25-year career of just how unpredictable FX markets can be.

So Stephen, in your currencies, what is your number one surprise for 2022?

Stephen Gallo:


First off, Greg, I went back and looked at the write-ups and you started to talk about a weaker yen as a preferred trade in March. So well done there, pat on the back from me.

In terms of the number one shock for me in the currencies I cover, I was completely shocked to see cable break it's prior record low set in the 1980s and go all the way to 1.0350. So in other words, going through its pre Plaza Accord low set in 1985 at 1.0520, absolutely amazing. I would never have told anyone that that was an odds on scenario for 2022 this time last year.

But just to backtrack, it was becoming clear to me by sort of Q1 that high inflation, the energy shock in Europe, balance of payments dynamics and the political backdrop in the UK all posed pretty big downside risks to sterling for the remainder of the year. And I was toying with this notion of devaluation, but I just never expected to see the US dollar as strong as it was, or it has been in order to facilitate a BOP crisis like scenario for want of a better term.

And Greg, just for the sake of consistency, using the same methodology on Bloomberg that you used for your probability of outcomes in dollar/yen, I plugged in 1.0350 using exactly one year ago today as the reference point, and I got an implied probability of just 5% of 1.0350 in cable being touched with in a year. So a pretty amazing year for that currency pair.

It looks to me like really you lucked out this year in effects if you just sold cable in the 130s, walked away for a year, even if you had missed covering your position at the low 1.0350, you'd still be up on the year based on today's pot level and cable. Just absolutely amazing.

Greg Anderson:


So Stephen, just to pat you on the back a bit, in last year's annual outlook, you highlighted a leadership change by the Tories as being a risk factor for 2022. It happened, and that was definitely part of the brew of factors that got us to 1.0350.

Stephen Gallo:


That's true, Greg, but I think even more important than the Boris Johnson factor for the move in sterling is the fact that once he left there was so much policy error risk for the Tory government as they sought to engineer a recovery for themselves in the polls. It was pretty clear to me that there was a lot that could go wrong. And obviously, that recovery in the polls didn't work out for them.

So Greg, now that we've finished with sterling and the Japanese yen, tell me what your runner-up shocks of 2022 have been in your currencies.

Greg Anderson:


My second most surprising currency in 2022 is the Mex peso, but where I'm going to talk about that in a bit with reference to 2023, I guess, I'll pass on it here.

Looking at underlying fundamentals, there are two moves in FX correlated financial prices that shocked the socks off of me and the market, I would argue. One year ago today, FFZ2 was at 99.30, meaning that the Fed Funds Futures were pricing in an end of 2022 Fed Funds rate of about 70 basis points. So the market was expecting 60 basis points -ish worth of rate hikes by the Fed this year. Assuming the Fed hikes 50 tomorrow, we will instead have been hit with 425 basis points worth of rate hikes. I never would've thunk it.

But almost as shocking to me is the move in WCS grade crude. It was trading at $55 a barrel a year ago. And I was pretty convinced it would go higher in 2022, particularly if we got any type of geopolitical shock in Ukraine and/or Taiwan, which are things that we mused about in our last year's outlook. So when WCS hit 110 in March on the back of Russia's invasion of Ukraine, that didn't surprise me all that much. But what has happened since June, that's just mind boggling to me. We were at $91 a barrel at the end of June, and here we are today trading at basically half of that at 46. That's just a stunning development in my humble opinion.

So Stephen, do you have any runners-up for moves in 2022 that you'd like to elaborate on in addition to the cable move?

Stephen Gallo:


Greg, I probably have to go with the way things have transpired regarding the war in Ukraine. Prior to Putin launching his, what he called, special military operation. I certainly didn't see the Russian side backing down at all, or giving much ground in its negotiation with NATO. But I was still shocked when the invasion happened. And judging by the scale of the moves in natural gas markets and the euro amongst other things, many investors seemed shocked by the invasion too.

What else is there? Well, since the point the invasion commenced, I've been surprised by multiple things, including the degree to which Putin did not accomplish all of his objectives in Ukraine. But equally, I've been pretty shocked and surprised by the resilience of both the Russian economy to the economic sanctions and the strength of the ruble.

I mean, it's astounding when you think about it. The ruble went from the upper 70s, so to speak, versus the dollar on the eve of the invasion to an all-time low of 177, and now it's trading at 63 to the US dollar. In other words, it's above its level observed just prior to the start of the war. That's pretty amazing.

Greg Anderson:


So Stephen, I guess we have now done the easy lifting, talking about past events. I really don't want to, but I guess it's that time in our workout when we should start with the heavyweights, meaning what could happen next year.

But actually I don't want us to provide too much of a spoiler for our written annual outlook. I mean, we don't want to cannibalize readership, so let's just whet our listeners' appetite with an appetizer or two. Let's talk about a few things that might conceivably happen in 2023 and that would be huge for the FX market if they did, but that aren't components of our so-called base case scenario.

Stephen Gallo:


Yes Greg, we can certainly show we're experts in talking about what did happen. What about what will happen? So my first question to you based on the fact that you mentioned the Mexican peso earlier on in the podcast is what's your story here for the peso?

Greg Anderson:


Well, the peso has been curiously strong in 2022. It's up about 4% against the dollar and a whole lot more than that on crosses with the other majors. That somewhat loads the spring, so to speak, for a big peso decline and particularly on crosses in 2023, if Mexico's fundamentals go the wrong way.

Now, let me just emphasize here, I'm talking about a risk scenario and not making a call regarding my base case scenario. But what if AMLO and his backers pursue a change to the constitution that would allow him to run for a second term in office in the 2024 election? I presume that this change in the constitution would need to be pursued in 2023. And that it would have a decent amount of public support. But it would also face fierce opposition. Hard for me to predict which side would win in that tug of war, but it's pretty easy to think that the tug of war would play out in the exchange rate as these types of political events often do.

So, in my currencies, the currency that I could most easily see a move of 20% or more in is the peso. And that move would be weaker, say, to 25, the figure in dollar max. Just to reiterate that's not the base case call, but it's a risk scenario.

So Stephen, how about for you? What's your number one risk scenario that FX markets should be watching out for in your currencies?

Stephen Gallo:


Well geez, number one risk scenario, Greg, I guess it would have to be a rapid end of the war in Ukraine and one that leaves room for a reversal of the sanctions imposed on Russia by the Western nations. I think the relief response in currency markets and eventually in the economic data would be enormous in this scenario.

For the currency for euro dollar, if euro dollar were trading 106, 107, call it, and that scenario occurred beginning perhaps with a Russian withdrawal from Ukraine, I think euro dollar would be at 110 in virtually an instant, but the path would be open to 115 probably within a matter of days.

But assuming we remain stuck in a frozen war, Greg, and that scenario I just mentioned doesn't occur, I think, a potentially huge risk scenario would be one in which the ECB's forced to shrink its balance sheet rapidly by selling assets, which I'd have to assume would be a response to inflation remaining way too high. Of course, this is not the base case for next year, but if you ask me about the response in the euro to such a scenario for ECB policy, I'd tell you that with inflation pressures that high, which forced the ECB into such an uncomfortable spot that it has to sell assets quickly, that'd be a big euro negative. Call it a sort of rehash of the 1970s and early '80s in Britain when interest rates were going up, but the currency was going down and it was because of inflation.

Greg Anderson:


Thanks for that. There are two-sided risks in euro dollar for sure.

So now that we've talked about our number one risk scenarios, should we take a stab at runners-up?

Stephen Gallo:


Absolutely, Greg. Let's keep things consistent. Give me your runner-up.

Greg Anderson:


So the Fed Funds Futures curve has rate cuts priced in for the latter half of next year. Although, most people I talk to don't believe that. Most economists and prognosticators are talking about a long hold at the terminal rate by the Fed and by every other major central bank in reaction to the Fed.

The scenario that is interesting to me though because I think it could generate a big FX reaction, is what would happen if a central bank went on pause for, let's say, six months between roughly March and September. And then, found itself forced to go back and do another round of rate hikes because it hadn't tightened enough and therefore, wasn't seeing inflation back off with sufficient speed?

The country where I could most easily see the scenario play out in is Australia. And, again, it's not my base case scenario, but I could easily see the RBA going on hold somewhere on a three handle for rates, maybe 3.50, and then having to come back and quickly hike another 1 to 200 basis points in the fourth quarter. If things were to play out that way, I guess I think Aussie could rally up to somewhere around 80 cents. That wouldn't quite be a 20% move, but it'd be in the ballpark.

Stephen Gallo:


That's a great point on central banks not tightening enough Greg and potentially having to chase inflation down in 2023 by more than they expect. I think it's also a risk in the UK if I'm 100% honest, and that leads me to my runner-up.

In the UK, economic conditions from fiscal austerity, or persistently high inflation, or both get so awful that defects from the Tory party occur resulting in a snap election before the end of 2023. I think the whole process that I just described would be a big negative for sterling, such that by the time the election is called, the currency might rally back a bit, but the political chaos and the economic damage in this scenario would probably be enough to send the pound a lot lower before there were actually enough votes in the common to force a general election. And that would probably be a guaranteed labor majority in the event of an election.

And as we're speculating here, and we don't have crystal balls, Greg, it's worth looking at the flip side. What if inflation falls quickly, unemployment in the UK barely rises, the BOE is able to pause its hiking cycle for basically the whole year, and the Conservative party closes its gap in the polls with Labor. I think this would be a huge sterling positive. But on balance, I'd probably assigned the negative scenario I mentioned earlier, a higher probability than this one.

Greg Anderson:


Politics, politics, like it or not, politics and associated geopolitical shifts tend to be the things that cause earthquakes in FX.

So as we wrap up here, Stephen, what is your election of the year in 2023? The one that we should be carefully tracking all year long,

Stephen Gallo:


Greg, in terms of planned elections, most of Europe enters are lull in political cycles next year. I mean, there's a chance the Finnish or Polish parliamentary elections throw us a bit of a surprise. And the state elections in Germany, there are a few. But one that I'd be watching pretty closely in 2023 is Turkey's general election in June due to Turkey's geopolitical influence and not least its geographic location on the map. That'll be a pretty important one.

Greg Anderson:


I agree that the Turkey election is the number one global election to watch in 2023.

As for my currencies, it's an off year politically in Canada, the US, Australia, New Zealand, and the LatAm majors.

Stephen Gallo:


We've covered a lot of ground here, Greg, and there will, of course, be more content in our published annual outlook over the next week or so. So let's wrap things up right here, Greg.

If you stuck with us, thanks for listening. Until next time, bye for now.

Greg Anderson:


Thanks for listening to Global Exchanges. Listen to past episodes and find transcripts at

Stephen Gallo:


We'd love to hear what you thought of today's episode. You can send us an email, or reach out to us on Bloomberg. You can listen to this show and subscribe on Apple Podcasts, Spotify, or your favorite podcast provider.

Greg Anderson:


This show and resources are supported by our team here at BMO, including the Thick Macro Strategy Group and BMO's marketing team. This show is produced and edited by Puddle Creative.



The views expressed here are those of the participants and not those of BMO Capital Markets, its affiliates, or subsidiaries. For full legal disclosure, visit

Greg Anderson Global Head of FX Strategy
Stephen Gallo European Head of FX Strategy

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