Despite near-term fears over the outlook, optimism over vaccine developments helped underpin UK currency.

Overall risk appetite held steady on Tuesday with underlying support from global liquidity.  Equities were held in tight ranges with slight Wall Street gains as recovery hopes were offset by near-term coronavirus fears.

The dollar was unable to hold intra-day gains and posted net losses as yields moved lower. EUR/USD eventually posted net gains and traded just above 1.2200. Sterling was boosted by reduced expectations of Bank of England negative rates with sharp GBP/USD gains to near 1.3700 amid US losses.

Commodity currencies recovered as the US dollar faded with Canadian dollar out-performance as USD/CAD dipped to near 1.2700.

The Euro briefly moved higher in early European trading on Tuesday, although it was unable to sustain the gains and EUR/USD retreated back below the 1.2150 level as the dollar continued to secure buying support on dips. The Euro was also undermined by reported comments from German Chancellor Merkel that the current lockdown measures were likely to stay in place until early April. In this context, there will be further concerns over near-term developments within the Euro-zone economy.

The US NFIB small-business confidence index declined sharply to 95.9 for December from 101.4 previously and well below consensus forecasts of 100.0.

The JOLTS job-openings data recorded a small decline to 6.53mn from 6.63mn the previous month, although slightly above market expectations. The IBD consumer confidence index strengthened to 50.1 from 49.0 previously with little overall market impact.

Cleveland Fed President Mester stated that monetary policy will not need to change as long as the medium-term outlook remains intact even though downside risks have lessened slightly. Kansas City head George stated that the Fed won’t react to any inflation move above 2.0%. The latest CPI data is due for release on Wednesday, although the second-quarter data will be important given that inflation will be pushed higher by a base effect of price declines in the second quarter of 2020.

The dollar was unable to gain fresh traction in New York and EUR/USD rallied to 1.2170 at the European close.

The US currency continued to wilt later in the day with EUR/USD breaking above the 1.2200 level while commodity currencies strengthened. There was little overall change on Wednesday with the dollar looking to stabilise, but unable to make headway as overall confidence dipped again with EUR/USD holding just above 1.2200.

China’s M2 money supply growth slowed to 10.1% for December from 10.7% previously while there was a slowdown in new lending to CNY1260bn from CNY1430bn previously, although this was slightly above consensus forecasts. Near-term Chinese data will be prone to volatility surrounding the Asian new-year holidays and annual comparisons will be erratic.

The US 10-year bond yield edged higher to fresh 10-month highs in early New York, although the US currency was unable to secure fresh support and drifted lower. Wider losses pushed USD/JPY below 104.00 later in New York and US bond yields moved lower which also tended to curb US currency support.

Vice-President Pence will not invoke the 25th amendment to remove Trump from office and the House is due to vote on impeachment later on Wednesday with evidence that Thump support is weakening. Fiscal and monetary policy developments will be potentially important with Fed Chair Powell speech due to speak on Thursday while President-elect Biden is due to announce his fiscal policy plans and there will be a significant impact on yields.

The Chinese yuan strengthened on Wednesday and the dollar remained on the defensive with a retreat to lows near 103.50 before a slight correction.

In comments on Tuesday, Bank of England Governor Bailey stated that negative interest rates were a controversial issue and that there are a lot of issues with the transmission of rates dependent on the banking sector. Bailey pointed to near-term downside risks, but was still confident that long-term scarring will be contained and that there will be a strong recovery later in the year. Overall, Bailey’s comments were seen as lessening the potential for negative rates which supported Sterling as markets moved to price out any move until late this year compared with last week when futures were pricing in a move by May.

Despite near-term fears over the outlook, optimism over vaccine developments also helped underpin the UK currency and there was some optimism that the rate of growth in new cases was slowing. GBP/USD moved back above 1.3600 while GBP/EUR strengthened to around 1.1200.

As the dollar lost ground, there were further notable gains to above 1.3650 against the US currency. Sterling held a firm tone on Wednesday with a GBP/USD peak close to 32-month highs and near the important 1.3700 area and before a slight correction while GBP/EUR edged higher to 6-week highs around 1.1200.

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