USD
FUNDAMENTAL OUTLOOK: BULLISH
BASELINE
The Fed is on a data-dependent (meeting-by-meeting) policy stance, meaning incoming growth, inflation and jobs data remains a key driver for short-term USD volatility where we expect a cyclical reaction for both the USD and US10Y (good data expected to be supportive for the USD and US yields while bad data is expected to pressure the USD and US yields). The Fed is still under pressure to continue hiking rates and ramping up QT, but last week’s decent deceleration in the OCT CPI report has given markets some solace from inflation angst. Money markets shed about 30bsp off the implied terminal rate. As a result of this the USD saw intense selling but has largely stabilized this week. Like we’ve said many times, right now is all about the data. The data will lead the Fed, which means the data is what we should follow for high probability short-term directional flows for the USD. In the week ahead, we have a few of important data points such as ISM Manufacturing PMI and NFP on Friday. However, also pay close attention to the scheduled speech from Fed Chair Powell on Wednesday.
POSSIBLE BULLISH SURPRISES
With the Fed signalling a data dependent policy stance, we expect a cyclical reaction from the USD with incoming US data. Thus, extremely good growth, inflation or jobs data is expected to trigger short-term bullish reactions in the USD. If the cyclical outlook continues to weaken, the USD’s safe haven status still matters. Any incoming catalysts that increase deep recession fears and triggers strong moves lower in risk assets & bonds can trigger safe haven flows into the USD. With a lot priced for the Fed and USD, the bar is high for hawkish Fed surprises, but any aggressive Fed speak talking up a >5.5% terminal rate can trigger further USD upside. The speech from Fed Chair Powell will be important. If he delivers the same stern hawkish tone that accompanied the prior FOMC presser, it can provide upside for the USD.
POSSIBLE BEARISH SURPRISES
With the Fed signalling a data dependent policy stance, we expect a cyclical reaction from the USD with incoming US data. Thus, extremely bad growth, inflation or jobs data is expected to trigger short-term bearish reactions in the USD. If the cyclical outlook starts to improve, the USD’s safe haven status still matters. Any incoming catalysts that decrease deep recession fears and triggers strong moves higher in risk assets & bonds can trigger safe haven outflows out of the USD. With a lot priced in for the Fed and the USD, it won’t take much to disappoint on the dovish side. Any big concerns about growth from Fed speakers could trigger outflows.
BIGGER PICTURE
The fundamental outlook for the USD remains bullish as long as the Fed stays aggressively hawkish and cyclical concerns put pressure on risk sentiment. However, it’s also important to remember that the data leads the Fed. That means, even though the USD remains fundamentally bullish in the currency negative cyclical environment, it’s short-term direction will largely be determined by the incoming data. Thus, in the current context, we prefer trading the USD in the short-term with scalps out of key US economic data points.
JPY
FUNDAMENTAL OUTLOOK: BEARISH
In recent weeks, yield differentials of course have been the biggest driver for the JPY with the BoJ keeping 10-year JGB yields capped at 0.25% with yield curve control while other central banks are hiking rates aggressively. However, Japan has intervened in the FX market twice buying JPY and selling USDs. The intervention saw short-term downside in XXXJPY pairs, but as the fundamental remains bearish it’ll take constant intervention to stop the JPY from falling. In the week ahead, focus will remain on any big moves in US yields (especially with further incoming US data).
POSSIBLE BULLISH SURPRISES
Catalysts that push US10Y lower (less hawkish Fed, lower UC CPI, lower growth) could trigger bullish reactions from the JPY. Any catalyst that triggers meaningful downside in key commodities like Oil (deteriorating demand outlook, ease in supply shortage) could trigger bullish JPY reactions.
POSSIBLE BEARISH SURPRISES
Any catalysts that push US10Y higher (more aggressive Fed, higher US CPI, better growth) could pressure the JPY. Catalyst that triggers meaningful upside in Oil (improving demand, decreased supply) could trigger JPY downside.
BIGGER PICTURE
The fundamental outlook remains bearish for the JPY due to yield differentials and the impact of a weaker JPY on the current account balance. As long as US10Y remain elevated and the BoJ stays stubbornly dovish and no currency intervention occurs, the bias remains lower. But take note of positioning which means we don’t want to chase the JPY lower, especially with the risk of further currency intervention should the JPY continue to weaken. The best opportunities for now remain short-term focused on further intervention or strong moves lower in US yields.
FUNDAMENTAL OUTLOOK: BULLISH
BASELINE
The Fed is on a data-dependent (meeting-by-meeting) policy stance, meaning incoming growth, inflation and jobs data remains a key driver for short-term USD volatility where we expect a cyclical reaction for both the USD and US10Y (good data expected to be supportive for the USD and US yields while bad data is expected to pressure the USD and US yields). The Fed is still under pressure to continue hiking rates and ramping up QT, but last week’s decent deceleration in the OCT CPI report has given markets some solace from inflation angst. Money markets shed about 30bsp off the implied terminal rate. As a result of this the USD saw intense selling but has largely stabilized this week. Like we’ve said many times, right now is all about the data. The data will lead the Fed, which means the data is what we should follow for high probability short-term directional flows for the USD. In the week ahead, we have a few of important data points such as ISM Manufacturing PMI and NFP on Friday. However, also pay close attention to the scheduled speech from Fed Chair Powell on Wednesday.
POSSIBLE BULLISH SURPRISES
With the Fed signalling a data dependent policy stance, we expect a cyclical reaction from the USD with incoming US data. Thus, extremely good growth, inflation or jobs data is expected to trigger short-term bullish reactions in the USD. If the cyclical outlook continues to weaken, the USD’s safe haven status still matters. Any incoming catalysts that increase deep recession fears and triggers strong moves lower in risk assets & bonds can trigger safe haven flows into the USD. With a lot priced for the Fed and USD, the bar is high for hawkish Fed surprises, but any aggressive Fed speak talking up a >5.5% terminal rate can trigger further USD upside. The speech from Fed Chair Powell will be important. If he delivers the same stern hawkish tone that accompanied the prior FOMC presser, it can provide upside for the USD.
POSSIBLE BEARISH SURPRISES
With the Fed signalling a data dependent policy stance, we expect a cyclical reaction from the USD with incoming US data. Thus, extremely bad growth, inflation or jobs data is expected to trigger short-term bearish reactions in the USD. If the cyclical outlook starts to improve, the USD’s safe haven status still matters. Any incoming catalysts that decrease deep recession fears and triggers strong moves higher in risk assets & bonds can trigger safe haven outflows out of the USD. With a lot priced in for the Fed and the USD, it won’t take much to disappoint on the dovish side. Any big concerns about growth from Fed speakers could trigger outflows.
BIGGER PICTURE
The fundamental outlook for the USD remains bullish as long as the Fed stays aggressively hawkish and cyclical concerns put pressure on risk sentiment. However, it’s also important to remember that the data leads the Fed. That means, even though the USD remains fundamentally bullish in the currency negative cyclical environment, it’s short-term direction will largely be determined by the incoming data. Thus, in the current context, we prefer trading the USD in the short-term with scalps out of key US economic data points.
JPY
FUNDAMENTAL OUTLOOK: BEARISH
In recent weeks, yield differentials of course have been the biggest driver for the JPY with the BoJ keeping 10-year JGB yields capped at 0.25% with yield curve control while other central banks are hiking rates aggressively. However, Japan has intervened in the FX market twice buying JPY and selling USDs. The intervention saw short-term downside in XXXJPY pairs, but as the fundamental remains bearish it’ll take constant intervention to stop the JPY from falling. In the week ahead, focus will remain on any big moves in US yields (especially with further incoming US data).
POSSIBLE BULLISH SURPRISES
Catalysts that push US10Y lower (less hawkish Fed, lower UC CPI, lower growth) could trigger bullish reactions from the JPY. Any catalyst that triggers meaningful downside in key commodities like Oil (deteriorating demand outlook, ease in supply shortage) could trigger bullish JPY reactions.
POSSIBLE BEARISH SURPRISES
Any catalysts that push US10Y higher (more aggressive Fed, higher US CPI, better growth) could pressure the JPY. Catalyst that triggers meaningful upside in Oil (improving demand, decreased supply) could trigger JPY downside.
BIGGER PICTURE
The fundamental outlook remains bearish for the JPY due to yield differentials and the impact of a weaker JPY on the current account balance. As long as US10Y remain elevated and the BoJ stays stubbornly dovish and no currency intervention occurs, the bias remains lower. But take note of positioning which means we don’t want to chase the JPY lower, especially with the risk of further currency intervention should the JPY continue to weaken. The best opportunities for now remain short-term focused on further intervention or strong moves lower in US yields.