USD
FUNDAMENTAL BIAS: BULLISH
1. Monetary Policy
The Jan FOMC decision was hawkish on multiple fronts. The statement signalled a March hike as expected, but Chair Powell portrayed a very hawkish tone. Even though Powell said they can’t predict the rate path with certainty, he stressed the economy is in much better shape compared to the 2015 cycle and that will have implications for the pace of hikes (more and faster). Furthermore, he explained that there is ‘quite a bit of room’ to raise rates without damaging employment, which suggests upside risks to the rate path. A big question going into the meeting was how concerned the Fed was about recent equity market volatility. But the Chair explained that markets and financial conditions are reflecting policy changes in advance and that in aggregate the measures they look at isn’t showing red lights. Thus, any ‘Fed Put’ is much further away and inflation is the Fed’s biggest concern right now. The Chair also didn’t rule out the possibility of a 50bsp hike in March or possibly hiking at every meeting this year, which was hawkish as it means the Fed wants optionality to move more aggressive if they need to. We didn’t get new info on the balance sheet and Powell reiterated that they’re contemplating a start of QT after hiking has begun and they’ll discuss this in coming meetings. Overall, the tone and language were a lot more hawkish than the Dec meeting and more hawkish than consensus was expecting.
2. Global & Domestic Economy
As the reserve currency, the USD’s global usage means it’s usually inversely correlated to the global economy and global trade. Thus, USD usually appreciates when growth & inflation slow (disinflation) and depreciates when growth & inflation accelerates (reflation). With expectations that growth and inflation will decelerate this year that should be a positive input for the USD. However, incoming data will also be important in relation to the ‘Fed Put’. There are many similarities between now and 4Q18, where the Fed were also tightening aggressively going into an economic slowdown. As long as growth data slows and the Fed stays aggressive that is a positive for the USD, but if it causes a dovish Fed pivot and lower rate repricing it would be a negative input for the USD.
3. CFTC Analysis
With peak hawkishness for the Fed arguably close to baked in for the USD, it’s been interesting to view the positioning unfold in the past few weeks. The USD remains a net-long across large specs, leveraged funds and asset managers, but price action has been looking stretched. However, given growing stagflation and geopolitical risks it means stretched positioning might not be as important right now, but worth keeping in mind of course.
4. The Week Ahead
This week’s data calendar for the US holds only 2 important data points with US CPI on Wednesday and UoM Consumer Sentiment on Frida. Markets are expecting headline CPI to reach 7.9% and Core CPI expected to reach 6.4% (both would be the highest going back to the early 80’s). The print will of course be important from a macro perspective, but it probably won’t be enough to chance the Fed’s mind about tightening. Fed chair Powell was quite clear this past week that we can expect a 25bsp hike at the March meeting, and even though he didn’t reject the idea of 50bsp for later meetings (depending on the inflation situation), it’s not their base case right now. Thus, CPI could spur some short-term volatility but probably nothing more. Consumer sentiment could also have an impact with markets expecting another drop where last time already saw sentiment deteriorate to GFC levels. Another bigger than expected miss might not change the Fed’s mind but could add to stagflation fears and create some short-term volatility. The USD has been looking stretched after the recent price action, and usually some mean reversion would not be out of the question. However, when you have both geopolitical risks of the magnitude we’ve recently seen, accompanied with growing stagflation risks, positioning might take a back seat. Thus, this week we’ll need to keep the geopolitical situation in mind when looking at the USD. With the downside seen in the EUR last week, any good news on the war could see a very drastic upside reaction in the EURAUD, EURNZD and EURUSD which were some of the biggest movers last week. At these levels though the attractiveness of chasing the USD higher is rather slim at the moment.
FUNDAMENTAL BIAS: BULLISH
1. Monetary Policy
The Jan FOMC decision was hawkish on multiple fronts. The statement signalled a March hike as expected, but Chair Powell portrayed a very hawkish tone. Even though Powell said they can’t predict the rate path with certainty, he stressed the economy is in much better shape compared to the 2015 cycle and that will have implications for the pace of hikes (more and faster). Furthermore, he explained that there is ‘quite a bit of room’ to raise rates without damaging employment, which suggests upside risks to the rate path. A big question going into the meeting was how concerned the Fed was about recent equity market volatility. But the Chair explained that markets and financial conditions are reflecting policy changes in advance and that in aggregate the measures they look at isn’t showing red lights. Thus, any ‘Fed Put’ is much further away and inflation is the Fed’s biggest concern right now. The Chair also didn’t rule out the possibility of a 50bsp hike in March or possibly hiking at every meeting this year, which was hawkish as it means the Fed wants optionality to move more aggressive if they need to. We didn’t get new info on the balance sheet and Powell reiterated that they’re contemplating a start of QT after hiking has begun and they’ll discuss this in coming meetings. Overall, the tone and language were a lot more hawkish than the Dec meeting and more hawkish than consensus was expecting.
2. Global & Domestic Economy
As the reserve currency, the USD’s global usage means it’s usually inversely correlated to the global economy and global trade. Thus, USD usually appreciates when growth & inflation slow (disinflation) and depreciates when growth & inflation accelerates (reflation). With expectations that growth and inflation will decelerate this year that should be a positive input for the USD. However, incoming data will also be important in relation to the ‘Fed Put’. There are many similarities between now and 4Q18, where the Fed were also tightening aggressively going into an economic slowdown. As long as growth data slows and the Fed stays aggressive that is a positive for the USD, but if it causes a dovish Fed pivot and lower rate repricing it would be a negative input for the USD.
3. CFTC Analysis
With peak hawkishness for the Fed arguably close to baked in for the USD, it’s been interesting to view the positioning unfold in the past few weeks. The USD remains a net-long across large specs, leveraged funds and asset managers, but price action has been looking stretched. However, given growing stagflation and geopolitical risks it means stretched positioning might not be as important right now, but worth keeping in mind of course.
4. The Week Ahead
This week’s data calendar for the US holds only 2 important data points with US CPI on Wednesday and UoM Consumer Sentiment on Frida. Markets are expecting headline CPI to reach 7.9% and Core CPI expected to reach 6.4% (both would be the highest going back to the early 80’s). The print will of course be important from a macro perspective, but it probably won’t be enough to chance the Fed’s mind about tightening. Fed chair Powell was quite clear this past week that we can expect a 25bsp hike at the March meeting, and even though he didn’t reject the idea of 50bsp for later meetings (depending on the inflation situation), it’s not their base case right now. Thus, CPI could spur some short-term volatility but probably nothing more. Consumer sentiment could also have an impact with markets expecting another drop where last time already saw sentiment deteriorate to GFC levels. Another bigger than expected miss might not change the Fed’s mind but could add to stagflation fears and create some short-term volatility. The USD has been looking stretched after the recent price action, and usually some mean reversion would not be out of the question. However, when you have both geopolitical risks of the magnitude we’ve recently seen, accompanied with growing stagflation risks, positioning might take a back seat. Thus, this week we’ll need to keep the geopolitical situation in mind when looking at the USD. With the downside seen in the EUR last week, any good news on the war could see a very drastic upside reaction in the EURAUD, EURNZD and EURUSD which were some of the biggest movers last week. At these levels though the attractiveness of chasing the USD higher is rather slim at the moment.