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In our view, the re-emergence of idiosyncratic UK policy risk as a GBP driver is a catalyst for de-coupling of EURGBP from other EUR-crosses in the weeks ahead.
Our macro team notes that the collapse in the correlation between EURGBP and EURUSD, for instance, can be rationalized in part by the flip-flopping in monetary policy guidance from BoE as the data cycle has turned, partly by the long shadow cast by Brexit negotiations, and to some extent by a series of large M&A transactions.
The rest of Euro-bloc FX is likely subject to more systemic forces of ongoing dollar strength and/or renewed emphasis on European political risk (c.f. Italy), hence, short correlation plays between EURGBP and other EUR-crosses can be a useful source of alpha, especially in the context of meaningful systematic returns from selling the broad universe of EUR-denominated corrs – 1st chart which is reproduced from a previous publication on the issue. Within the Euro-bloc, EURGBP vs EURJPY correlations screen as the most compelling short at present.
Current implied corrs 20 is nothing to write home about in a historical context but are a healthy 20-30 % pts. too high vis-à-vis trailing realized corrs (refer 2nd chart).
Additionally, if the ongoing weakness in EM intensifies, it is comforting to know that historical asymmetry is in favor of correlation sellers: EURGBP – EURJPY implied corrs have fallen by 12 % pts. on average across sizeable vol shock events over the past 15-yrs, without unpleasant tails even during the years of the EU debt-crisis fuelled broad Euro sell-offs. We open a short 3M corr swap as a positive carry, vol spike resilient construct to monetize idiosyncratic GBP noise. Courtesy: JPM
Currency Strength Index: FxWirePro's hourly EUR spot index has shown -48 (which is bearish), while hourly GBP spot index was at -120 (bearish), JPY flashing at 48 (bullish) while articulating at 10:26 GMT. For more details on the index, please refer below weblink:
http://www.fxwirepro.com/currencyindex.
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